Self-Regulatory Organizations; Financial Industry Regulatory Authority, Inc.; Notice of Filing of a Proposed Rule Change To Require Registration as Securities Traders of Associated Persons Primarily Responsible for the Design, Development or Significant Modification of Algorithmic Trading Strategies, 9235-9242 [2016-03794]

Download as PDF Federal Register / Vol. 81, No. 36 / Wednesday, February 24, 2016 / Notices any burden on competition not necessary or appropriate in furtherance of the purposes of the Act. The Exchange notes that the proposed rule change is specifically intended to reduce the burden on registered persons for complying with the CE requirement while preserving the integrity of the CE program. As described above, the Webbased delivery method will provide registered persons the flexibility to complete the Regulatory Element at any location that they choose. Further, Webbased delivery is efficient and offers significant cost savings over test-center and in-firm deliveries. With respect to the authentication process for Webbased delivery, the CE candidate’s personal identifying information will be masked and will be submitted to FINRA through a secure, encrypted, network. The personal identifying information submitted via the Web-based system will be used for authentication purposes only—the information will not be stored in the Web-based system. C. Self-Regulatory Organization’s Statement on Comments on the Proposed Rule Change Received From Members, Participants, or Others No written comments were solicited or received with respect to the proposed rule change. mstockstill on DSK4VPTVN1PROD with NOTICES III. Date of Effectiveness of the Proposed Rule Change and Timing for Commission Action The Exchange has filed the proposed rule change pursuant to Section 19(b)(3)(A)(iii) of the Act 20 and Rule 19b–4(f)(6) thereunder.21 Because the proposed rule change does not: (i) Significantly affect the protection of investors or the public interest; (ii) impose any significant burden on competition; and (iii) become operative prior to 30 days from the date on which it was filed, or such shorter time as the Commission may designate, if consistent with the protection of investors and the public interest, the proposed rule change has become effective pursuant to Section 19(b)(3)(A) of the Act and Rule 19b–4(f)(6)(iii) thereunder. A proposed rule change filed under Rule 19b–4(f)(6) 22 normally does not become operative prior to 30 days after the date of the filing. However, pursuant to Rule 19b4(f)(6)(iii),23 the Commission may designate a shorter time if such 20 15 U.S.C. 78s(b)(3)(A)(iii). 21 17 CFR 240.19b–4(f)(6). 22 17 CFR 240.19b–4(f)(6). 23 17 CFR 240.19b–4(f)(6)(iii). VerDate Sep<11>2014 17:59 Feb 23, 2016 Jkt 238001 action is consistent with the protection of investors and the public interest. The Exchange has asked the Commission to waive the 30-day operative delay so that the proposal may become operative immediately upon filing. The Commission believes that waiving the 30-day operative delay is consistent with the protection of investors and the public interest as it will allow registered persons to immediately complete the Regulatory Element of the Exchange’s continuing education requirement through the more flexible Web-based delivery method. Accordingly, the Commission designates the proposed rule change to be operative upon filing.24 At any time within 60 days of the filing of such proposed rule change, the Commission summarily may temporarily suspend such rule change if it appears to the Commission that such action is necessary or appropriate in the public interest, for the protection of investors, or otherwise in furtherance of the purposes of the Act. If the Commission takes such action, the Commission shall institute proceedings under Section 19(b)(2)(B) 25 of the Act to determine whether the proposed rule change should be approved or disapproved. IV. Solicitation of Comments Interested persons are invited to submit written data, views, and arguments concerning the foregoing, including whether the proposed rule change is consistent with the Act. Comments may be submitted by any of the following methods: Electronic Comments • Use the Commission’s Internet comment form (https://www.sec.gov/ rules/sro.shtml); or • Send an email to rule-comments@ sec.gov. Please include File Number SR– NYSEMKT–2016–22 on the subject line. Paper Comments • Send paper comments in triplicate to Brent J. Fields, Secretary, Securities and Exchange Commission, 100 F Street NE., Washington, DC 20549–1090. All submissions should refer to File Number SR–NYSEMKT–2016–22. This file number should be included on the subject line if email is used. To help the Commission process and review your comments more efficiently, please use only one method. The Commission will 24 For purposes only of waiving the 30-day operative delay, the Commission has also considered the proposed rule’s impact on efficiency, competition, and capital formation. See 15 U.S.C. 78c(f). 25 15 U.S.C. 78s(b)(2)(B). PO 00000 Frm 00075 Fmt 4703 Sfmt 4703 9235 post all comments on the Commission’s Internet Web site (https://www.sec.gov/ rules/sro.shtml). Copies of the submission, all subsequent amendments, all written statements with respect to the proposed rule change that are filed with the Commission, and all written communications relating to the proposed rule change between the Commission and any person, other than those that may be withheld from the public in accordance with the provisions of 5 U.S.C. 552, will be available for Web site viewing and printing in the Commission’s Public Reference Room, 100 F Street NE., Washington, DC 20549 on official business days between the hours of 10:00 a.m. and 3:00 p.m. Copies of the filing also will be available for inspection and copying at the principal office of the Exchange. All comments received will be posted without change; the Commission does not edit personal identifying information from submissions. You should submit only information that you wish to make available publicly. All submissions should refer to File Number SR– NYSEMKT–2016–22 and should be submitted on or before March 16, 2016. For the Commission, by the Division of Trading and Markets, pursuant to delegated authority.26 Robert W. Errett, Deputy Secretary. [FR Doc. 2016–03793 Filed 2–23–16; 8:45 am] BILLING CODE 8011–01–P SECURITIES AND EXCHANGE COMMISSION [Release No. 34–77175; File No. SR–FINRA– 2016–007] Self-Regulatory Organizations; Financial Industry Regulatory Authority, Inc.; Notice of Filing of a Proposed Rule Change To Require Registration as Securities Traders of Associated Persons Primarily Responsible for the Design, Development or Significant Modification of Algorithmic Trading Strategies February 18, 2016. Pursuant to Section 19(b)(1) of the Securities Exchange Act of 1934 (‘‘Act’’) 1 and Rule 19b–4 thereunder,2 notice is hereby given that on February 11, 2016, Financial Industry Regulatory Authority, Inc. (‘‘FINRA’’) (f/k/a National Association of Securities 26 17 CFR 200.30–3(a)(12). U.S.C. 78s(b)(1). 2 17 CFR 240.19b–4. 1 15 E:\FR\FM\24FEN1.SGM 24FEN1 9236 Federal Register / Vol. 81, No. 36 / Wednesday, February 24, 2016 / Notices Dealers, Inc. (‘‘NASD’’)) filed with the Securities and Exchange Commission (‘‘SEC’’ or ‘‘Commission’’) the proposed rule change as described in Items I, II, and III below, which Items have been prepared by FINRA. The Commission is publishing this notice to solicit comments on the proposed rule change from interested persons. I. Self-Regulatory Organization’s Statement of the Terms of Substance of the Proposed Rule Change FINRA is proposing to require registration as Securities Traders of associated persons primarily responsible for the design, development or significant modification of algorithmic trading strategies, or who are responsible for the day-to-day supervision or direction of such activities. The text of the proposed rule change is available on FINRA’s Web site at https://www.finra.org, at the principal office of FINRA and at the Commission’s Public Reference Room. II. Self-Regulatory Organization’s Statement of the Purpose of, and Statutory Basis for, the Proposed Rule Change In its filing with the Commission, FINRA included statements concerning the purpose of and basis for the proposed rule change and discussed any comments it received on the proposed rule change. The text of these statements may be examined at the places specified in Item IV below. FINRA has prepared summaries, set forth in sections A, B, and C below, of the most significant aspects of such statements. mstockstill on DSK4VPTVN1PROD with NOTICES A. Self-Regulatory Organization’s Statement of the Purpose of, and Statutory Basis for, the Proposed Rule Change 1. Purpose NASD Rule 1032(f) (the ‘‘Rule’’) generally provides that each person associated with a member included within the definition of a representative must register with FINRA as a Securities Trader if, with respect to transactions in equity, preferred or convertible debt securities effected otherwise than on a securities exchange, such person is engaged in proprietary trading, the execution of transactions on an agency basis, or the direct supervision of such activities.3 This registration requirement 3 Before registration as a Securities Trader may become effective, an applicant must pass the Securities Trader qualification examination. A FINRA rule change establishing the Securities Trader registration category and qualification examination (which replaced the Equity Trader registration category and qualification examination) VerDate Sep<11>2014 17:59 Feb 23, 2016 Jkt 238001 currently does not reach associated persons that solely are involved in the design, development or significant modification of algorithmic trading strategies. Given the prevalence of use of algorithmic trading strategies by members, and the resultant significant role such systems play in today’s markets, FINRA proposes that associated persons primarily responsible for the design, development or significant modification of algorithmic trading strategies (or responsible for the day-to-day supervision or direction of such activities) be required to register as Securities Traders with FINRA and, thus, required to pass the requisite qualification examination and be subject to the same continuing education requirements as are applicable to individual securities traders. FINRA is concerned that problematic conduct stemming from algorithmic trading strategies, such as failure to check for order accuracy, inappropriate levels of messaging traffic, wash sales, failure to mark orders as ‘‘short’’ or perform proper short sale ‘‘locates,’’ and inadequate risk management controls, could be reduced or prevented, in part, through improved education regarding securities regulations for the specified individuals involved in the algorithm design and development process.4 Scope of ‘‘Algorithmic Trading Strategy’’ For purposes of the proposal, an ‘‘algorithmic trading strategy’’ is an automated system that generates or routes orders or order-related messages such as routes or cancellations, but does not include an automated system that solely routes orders received in their entirety to a market center. As markets change, the scope of what would be considered an algorithmic trading strategy will continue to evolve as new trading strategies are designed and developed. was approved by the SEC on August 28, 2015. In this filing, FINRA also established a new principal registration category—Securities Trader Principal— for a principal with supervisory responsibility over securities trading activities. The effective date of the registration category and qualification examination requirement for Securities Traders and Securities Trader Principals was January 4, 2016. See Securities Exchange Act Release No. 75783, 80 FR 53369 (September 3, 2015) (Order Approving File No. SR–FINRA–2015–017); and Regulatory Notice 15–45 (November 2015). See also Securities Exchange Act Release No. 75394 (July 8, 2015), 80 FR 41119 (July 14, 2015) (Notice of Filing of File No. SR–FINRA–2015–017). 4 See Regulatory Notice 15–06 (Registration of Associated Persons Who Develop Algorithmic Trading Strategies) (March 2015), in which FINRA solicited comment on the proposed registration requirement. PO 00000 Frm 00076 Fmt 4703 Sfmt 4703 For example, FINRA has observed the following types of automated systems that would be included within the proposed definition of ‘‘algorithmic trading strategy:’’ • An arbitrage strategy, such as index or exchange-traded fund (ETF) arbitrage; • A hedging or loss-limit algorithmic strategy that generates orders on an automated basis; • A strategy that involves simultaneously trading of two or more correlated securities due to the divergence in their prices or other trading attributes; • An order generation, routing and execution program used for large-sized orders that involve dividing the order into smaller-sized orders less likely to result in market impact; • An order routing strategy used to determine the price or size for routed orders, the use of ‘‘parent’’ or ‘‘child’’ orders, or displayed versus nondisplayed trading interest; • A trading strategy that becomes more or less aggressive to correlate with trading volume in specified securities; • A trading strategy that generates orders based on moving reference prices; • A trading strategy that minimizes intra-day slippage in connection with achieving volume-weighted average prices and time-weighted average prices; and • A strategy that creates or liquidates baskets of securities, including those that track indexes or ETFs. The above is not an exhaustive list of the types of automated functionality that will be deemed an ‘‘algorithmic trading strategy’’ under the proposal. FINRA expects that members will register associated persons primarily responsible for the design, development or significant modification of automated programs (and day-to-day supervision or direction of such activities) that generate orders into the marketplace or execute trades without material intervention by any person. While NASD Rule 1032(f) currently is limited to activity effected otherwise than on a securities exchange, the proposed registration requirement applies to orders and order related messages whether ultimately routed (or sent to be routed) to an exchange or over the counter. For the purpose of this proposal, an order router alone would not constitute an algorithmic trading strategy; for example, a standard order router that routes retail orders in their entirety to a particular market center for handling and execution would not be considered an algorithmic trading strategy. If an order router performs any additional E:\FR\FM\24FEN1.SGM 24FEN1 Federal Register / Vol. 81, No. 36 / Wednesday, February 24, 2016 / Notices functions, such as those set forth above, it would be considered an algorithmic trading strategy. In addition, an algorithm that solely generates trading ideas or investment allocations, including an automated investment service that constructs portfolio recommendations, but that is not equipped to automatically generate orders and order-related messages to effectuate such trading ideas into the market (whether independently or via a linked router), would not constitute an algorithmic trading strategy for purposes of the proposal. Scope of Registration Requirement mstockstill on DSK4VPTVN1PROD with NOTICES FINRA developed the proposed registration requirement to address concerns around the role of algorithmic trading strategies in problematic marketplace conduct by member firms. Pursuant to the proposal, associated persons primarily responsible for the design, development or significant modification 5 of algorithmic trading strategies (or responsible for the day-today supervision or direction of such activities) would be required to take a qualification examination and be subject to continuing education requirements. As noted above, FINRA published Regulatory Notice 15–06 to solicit comment on the proposed registration requirement. FINRA received feedback from members, including requesting clarification and guidance on FINRA’s expectations around supervision, and registration of supervisors, in connection with the proposal.6 The majority of these questions and concerns focused on firm personnel not currently required to register pursuant 5 A ‘‘significant modification’’ to an algorithmic trading strategy generally would be any change to the code of the algorithm that impacts the logic and functioning of the trading strategy employed by the algorithm. Therefore, for example, a data feed/data vendor change generally would not be considered a ‘‘significant modification,’’ whereas a change to a benchmark (such as an index) used by the strategy generally would be considered a ‘‘significant modification.’’ FINRA notes that, even in cases where a modification is not significant and, therefore, would not be required to be performed by a registered Securities Trader pursuant to this proposal, as stated in Regulatory Notice 15–09, firms should also focus efforts on the development of algorithmic strategies and on how those strategies are tested and implemented, including, among other things, implementing a change management process that tracks the development of new trading code or material changes to existing code. An effective process should include a review of test results and a set of approval protocols that are appropriate given the scope of the code or any change(s) to the code. See Regulatory Notice 15–09 (Guidance on Effective Supervision and Control Practices for Firms Engaging in Algorithmic Trading Strategies) (March 2015). 6 See supra note 4. The comments and FINRA’s response are discussed in Item II.C. below. VerDate Sep<11>2014 17:59 Feb 23, 2016 Jkt 238001 to the Rule. For example, while an equity trader involved in the design of an algorithmic trading strategy already would be required to register pursuant to NASD Rule 1032(f), the developer with which the trader collaborates to create an algorithmic trading strategy may not be. Members have inquired whether, in such cases, the registration requirement would extend to other coders on the development team or persons higher in the developer’s reporting line. While workflows, structures and roles may differ across members, in proposing this amendment, FINRA seeks to ensure that members identify and register associated persons primarily responsible for the design, development or significant modification of algorithmic trading strategies (or responsible for the day-to-day supervision or direction of such activities). In establishing this requirement, FINRA seeks to ensure that one or more associated persons that possess knowledge of, and responsibility for, both the design of the intended trading strategy (e.g., the arbitrage strategy) and the technological implementation of such strategy (e.g., coding), sufficient to evaluate whether the resultant product is designed not only to achieve business objectives, but also regulatory compliance. As stated in Regulatory Notice 15–06, FINRA does not intend the registration requirement to apply to every associated person that touches or otherwise is involved in the design or development of a trading algorithm. For example, if a sole associated person determines the design of the trading strategy employed by an algorithm, writes the code to effectuate such strategy, and executes or directs the modification of such code going forward, then that person alone would be required to register as a Securities Trader under the proposal.7 In contrast, where a lead developer liaises with a head trader regarding the head trader’s desired algorithmic trading strategy, and is primarily responsible for the supervision of the development of the algorithm to meet such objectives, such lead developer must be registered under the proposal as 7 It is understood that various technology and other firm personnel are involved in additional tasks necessary to launch an algorithmic trading strategy into production—such as integrating the algorithm into the firm’s technological infrastructure and testing linkages. However, because these activities generally would not be considered to be design, development or significant modification activities with respect to the algorithm itself, registration of such personnel as Securities Traders would not be required pursuant to this proposal. PO 00000 Frm 00077 Fmt 4703 Sfmt 4703 9237 the associated person primarily responsible for the development of the algorithmic trading strategy and supervising or directing the team of developers. Individuals under the lead developer’s supervision would not be required to register under the proposal if they are not primarily responsible for the development of the algorithmic trading strategy or are not responsible for the day-to-day supervision or direction of others on the team.8 Under this scenario, the person on the business side that is primarily responsible for the design of the algorithmic trading strategy, as communicated to the lead developer, also would be required to register (if not already required to register as a Securities Trader due to their other duties). In the event of a significant modification to the algorithm, members, likewise, must ensure that the associated person primarily responsible for the significant modification (or the associated person supervising or directing such activity), is registered as a Securities Trader.9 To clarify the scope of the proposed requirement, the proposed rule provides that only those persons involved in the ‘‘day-to-day’’ supervision or direction of the activities covered by this proposal would be required to register. Thus, each person associated with a member must register as a Securities Trader if such person is (i) primarily responsible for the design, development or significant modification of an 8 For example, a junior developer on the lead developer’s team presumably is not ‘‘primarily’’ responsible for the design, development or significant modification of an algorithmic trading strategy and, therefore, would not be required to register under the proposal. By limiting the registration requirements to those persons primarily responsible for the design, development or significant modification of algorithmic trading strategies (or responsible for the day-to-day supervision or direction of such activities) FINRA aims to ensure that the member has identified the individuals primarily responsible for covered activities, and for the day-to-day supervision and direction of covered activities, and equip them with a basic level of familiarity with the regulatory obligations of the firm employing the algorithm. FINRA expects that the competency of these associated persons will inform the behaviors of those acting under their supervision or at their direction. 9 In certain cases, the design of a new algorithmic trading strategy (or significant modification to an existing strategy) may be originated and approved by a committee within the firm, including by committee members whose roles may be unrelated to trading or development (e.g., sales personnel providing insight regarding client needs or research analysts regarding sector trends). In such cases, FINRA would not consider each committee member to be primarily responsible for the design or significant modification of the algorithmic trading strategy, so long as an appropriately registered associated person is designated as primarily responsible for defining the business requirements of the trading strategy to be employed by the algorithm. E:\FR\FM\24FEN1.SGM 24FEN1 9238 Federal Register / Vol. 81, No. 36 / Wednesday, February 24, 2016 / Notices mstockstill on DSK4VPTVN1PROD with NOTICES algorithmic trading strategy relating to equity (including options), preferred or convertible debt securities; or (ii) responsible for the day-to-day supervision or direction of such activities.10 FINRA notes that FINRA Rule 3110(a)(2) generally requires that all registered persons be designated to an appropriately registered principal or principals with authority to carry out the supervisory responsibilities of the member for each type of business in which it engages for which registration as a broker-dealer is required. With the addition of this new activity to the Securities Trader registration category, members will be required to designate developers to a registered principal for Rule 3110(a)(2) purposes. In such instances, FINRA believes it is appropriate that members may ‘‘assign’’ a lead algorithm developer (or other non-trader) engaging in covered activities to one or more other registered persons of the member that supervise trading activities outside such developer’s or other non-trader’s usual reporting line. While the adequacy of a member’s supervisory structure must be evaluated on an individual firm basis, members are afforded a degree of flexibility in arranging for the appropriate supervision of a lead developer (or other non-trader) that engages in covered activities, such as by assigning such person to: • A Securities Trader Principal 11 in the member’s trading business line (e.g., the Securities Trader Principal in the reporting line of a Securities Trader primarily responsible for the design of any algorithmic trading strategy); or • A Securities Trader in the member’s trading business line (e.g., a Securities Trader primarily responsible for the design of an algorithmic trading strategy, including the strategy developed by the lead developer); or • More than one registered person, provided that the supervisor responsible for the lead algorithm developer’s activities requiring registration as a Securities Trader must be registered as a Securities Trader or Securities Trader Principal.12 10 As discussed further below, a senior or lead developer’s supervisor would not necessarily be required to be registered under the proposal if that person is not involved in the day-to-day supervision or direction of the development process. 11 To qualify for registration as a Securities Trader Principal, an individual must be registered as a Securities Trader (Series 57) and pass the General Securities Principal qualification examination (Series 24). See supra note 3. 12 Another registered person—e.g., a General Securities Representative—may be assigned to VerDate Sep<11>2014 17:59 Feb 23, 2016 Jkt 238001 Accordingly, the proposal may not necessarily trigger registration requirements for the current supervisor of algorithm design or development personnel if such supervisor is not responsible for the day-to-day supervision or direction of the specific activities covered by this proposal. However, the firm must designate an appropriately registered person to be responsible for supervising the algorithmic trading strategy activities. Third-Party Algorithms In some cases, an algorithmic trading strategy employed by a member may not have originated in-house and, therefore, may not have been designed or built by the member’s associated persons. In cases where the design and development of an algorithmic trading strategy was performed solely by a third-party, the proposed registration requirement would not apply to the member with regard to the design or development of such algorithm. However, FINRA notes that, to the extent associated persons were involved in the design or development, or are able to significantly modify the algorithmic trading strategy in-house, such persons must be registered as Securities Traders.13 A member also may engage a thirdparty to custom-build an algorithmic trading strategy for the member. In such cases, the associated person responsible for directing the third-party in the design, development or significant modification of the algorithmic trading strategy also would be included within the scope of this proposal and must be registered as a Securities Trader. Similarly, after the member has launched the externally built algorithm, any significant modification by the member to such algorithm must be performed by a registered Securities Trader. FINRA notes that, irrespective of whether an algorithm is designed or developed in-house or by a third-party, the member employing the algorithm continues to be responsible for the algorithm’s activities. Thus, in all cases, robust supervisory procedures, both prior to and after deployment of an algorithmic trading strategy, are a key component in protecting against supervise the lead algorithm developer with regard to other general areas applicable to registered reps, such as outside business activities. As always, if the activities of a registered representative are assigned to be supervised by more than one registered representative or principal, the member must clearly document which activities are assigned to be supervised by each responsible party. 13 See supra note 5. PO 00000 Frm 00078 Fmt 4703 Sfmt 4703 problematic behavior stemming from algorithmic trading.14 In addition, as is the case under the current rules, associated persons responsible for monitoring or reviewing the performance of an algorithmic trading strategy must be registered pursuant to NASD Rule 1032(f); a member’s trading activity must always be supervised by an appropriately registered person. Therefore, even where a firm purchases an algorithm off-the-shelf and does not significantly modify the algorithm, the associated person responsible for monitoring or reviewing the performance of the algorithm must be registered pursuant to NASD Rule 1032(f). As noted in Item 2 of this filing, if the Commission approves the proposed rule change, FINRA will announce the effective date of the proposed rule change in a Regulatory Notice to be published no later than 60 days following Commission approval. The effective date will be no sooner than 180 days following publication of the Regulatory Notice but no later than 300 days following Commission approval. 2. Statutory Basis FINRA believes that the proposed rule change is consistent with the provisions of Section 15A(b)(6) of the Act,15 which requires, among other things, that FINRA rules must be designed to prevent fraudulent and manipulative acts and practices, to promote just and equitable principles of trade, and, in general, to protect investors and the public interest. The prevalence of use of algorithms in the marketplace has highlighted the risks that arise when such strategies are poorly designed. FINRA has observed situations in which algorithmic trading strategies have resulted in manipulative trading activities and potential securities law violations, including of SEC Regulation NMS, SEC Regulation SHO, SEA Rule 15c3–5 and other critical market and investor protection safeguards. This proposal requires associated persons primarily responsible for the design, development or significant modification of an algorithmic trading strategy (or responsible for the day-to-day supervision or direction of such activities) to meet a minimum standard of knowledge regarding the securities rules and regulations applicable to the member employing the algorithmic trading strategy that is identical to the 14 See Regulatory Notice 15–09 (Guidance on Effective Supervision and Control Practices for Firms Engaging in Algorithmic Trading Strategies) (March 2015). 15 15 U.S.C. 78o-3(b)(6). E:\FR\FM\24FEN1.SGM 24FEN1 Federal Register / Vol. 81, No. 36 / Wednesday, February 24, 2016 / Notices standard of knowledge applicable to traditional securities traders. FINRA believes that problematic market conduct may be reduced through improved education of firm personnel regarding securities regulations. FINRA also believes that the proposal will help clarify members’ obligations with respect to FINRA’s expectations regarding associated persons primarily responsible for the design, development or significant modification of algorithmic trading strategies (or responsible for the day-to-day supervision or direction of such activities). Thus, FINRA believes that the proposed rule change is consistent with the provisions of Section 15A(b)(6) of the Act,16 in that it is designed to prevent fraudulent and manipulative acts and practices, to promote just and equitable principles of trade, and, in general, to protect investors and the public interest. B. Self-Regulatory Organization’s Statement on Burden on Competition FINRA does not believe that the proposed rule change will result in any burden on competition that is not necessary or appropriate in furtherance of the purposes of the Act. Economic Impact Assessment mstockstill on DSK4VPTVN1PROD with NOTICES Need for the Rule FINRA is concerned that associated persons primarily responsible for the design, development or significant modification of algorithmic trading strategies (or who are responsible for the day-to-day supervision or direction of such activities) may lack adequate knowledge regarding the securities rules and regulations applicable to FINRA members operating in the securities markets. This lack of knowledge could result in algorithms that do not comply with applicable rules. As noted above, FINRA has observed situations in which algorithmic trading strategies have resulted in manipulative trading activities and potential securities law violations. Further, FINRA notes that, under the current regulatory structure, some individuals primarily responsible for the design, development or significant modification of algorithmic trading strategies (or who are responsible for the day-to-day supervision or direction of such activities) may claim that they are not required to be aware of the firms’ responsibilities under applicable securities rules and regulations. The proposed rule would close this gap in regulatory oversight. 16 15 U.S.C. 78o-3(b)(6). VerDate Sep<11>2014 17:59 Feb 23, 2016 Jkt 238001 The proposed rule change is intended to enhance investor protection by limiting the development of algorithms designed in conflict with securities rules and regulations. The proposal may also reduce uncertainty by certain market participants of their obligations. It aims to do so through a registration requirement and improved education regarding securities regulations for specified individuals involved in the algorithm design and development process. Economic Baseline The registration requirements for associated persons under current FINRA rules serve as an economic baseline of the proposed rule change. Currently, associated persons that solely are primarily responsible for the design, development or significant modification of an algorithmic trading strategy (or who are responsible for the day-to-day supervision or direction of such activities) are not required to register with FINRA as Securities Traders. The economic impacts of the proposal depend on the number of additional individuals that would be covered by the proposed registration requirement. Pursuant to the proposed rule change, associated persons primarily responsible for the design, development or significant modification of algorithmic trading strategies (or responsible for the day-to-day supervision or direction of such activities) would be required to register as Securities Traders with FINRA. Under current FINRA rules, it is likely that many of the associated persons primarily responsible for the design of algorithmic trading strategies already are registered, assuming that they also engage in traditional trading activities. Associated persons primarily responsible for the development of algorithmic trading strategies are likely not registered. With regard to supervisors, as noted above, FINRA believes it appropriate for members to ‘‘assign’’ a lead algorithm developer engaging in covered activities to certain registered persons supervising trading activities outside such developer’s usual reporting line. Therefore, many of the associated persons responsible for the day-to-day supervision or direction of the design, development or significant modification of algorithmic trading strategies may have already registered. In Regulatory Notice 15–06, FINRA sought comment on the number of persons who conduct activity that may be covered by the proposed rule change, but did not receive any quantitative estimates. Given the diverse nature of the activity and organizational PO 00000 Frm 00079 Fmt 4703 Sfmt 4703 9239 structures among firms, it is not possible for FINRA to accurately estimate the number of persons who are primarily responsible for the design, development or significant modification of algorithmic trading strategies. FINRA is, however, aware of anecdotal information that suggests that these activities represent significant numbers of personnel for some firms. Currently, some firms may be organized such that the covered activities are supervised by a registered person, but in other cases the activities are managed separately. Economic Impacts The proposed rule change is expected to enhance investor protection and member compliance by limiting problematic conduct stemming from algorithmic trading strategies. It should also reduce uncertainty by certain market participants of their obligations. FINRA recognizes that the proposal would impose costs on member firms employing associated persons engaged in the activity subject to the registration requirement. Specifically, among other things, additional associated persons would be required to become registered under the proposal, and the firm would need to establish policies and procedures to monitor compliance with the proposed requirement on an ongoing basis. In Regulatory Notice 15–06, FINRA solicited public comment on the estimated number of member firms that would be affected by the proposal, the estimated number of associated persons not currently required to register as Securities Traders that would be covered by the proposal, and the estimated costs associated with monitoring compliance with the proposed requirement. FINRA did not receive any estimates of these metrics. As discussed above, FINRA expects that most of the costs would be related to the registration and continuing education requirements for associated persons primarily responsible for the design, development or significant modification of algorithmic trading strategies. Some of the costs may be passed on to the associated persons depending on member firm policies regarding examination and examination preparation costs. The proposal also may have indirect impacts on member firms. For example, it may discourage persons not currently required to register as Securities Traders, such as some algorithm developers, from associating with a member firm in a capacity that requires registration. However, given the prevalence and importance of algorithmic trading strategies in today’s markets, FINRA E:\FR\FM\24FEN1.SGM 24FEN1 9240 Federal Register / Vol. 81, No. 36 / Wednesday, February 24, 2016 / Notices believes that associated persons engaged in the activities covered by this proposal must meet a minimum standard of knowledge regarding the applicable securities rules and regulations. To mitigate the costs imposed on member firms, the proposed rule change limits the scope of registration requirement by excluding technological or development support personnel who are not primarily responsible for the covered activities. It also excludes supervisors who are not responsible for the ‘‘day-today’’ supervision or direction of the covered activities. Moreover, FINRA believes that it is appropriate for firms to ‘‘assign’’ lead algorithm developers or other non-traders engaging in covered activities to certain supervisors that are existing registered persons. Alternatives Considered As discussed in the Statement on Comments below, FINRA considered inhouse training of firm personnel as an alternative to the proposed registration and qualification requirements. FINRA also considered whether another existing examination would be as (or more) appropriate than the Securities Trader qualification examination. FINRA believes that the proposed registration and continuing education requirements are best suited for associated persons engaging in covered activities. mstockstill on DSK4VPTVN1PROD with NOTICES C. Self-Regulatory Organization’s Statement on Comments on the Proposed Rule Change Received From Members, Participants, or Others On March 19, 2015, FINRA published Regulatory Notice 15–06 soliciting comment on the proposed registration of associated persons primarily responsible for the design, development or significant modification of an algorithmic trading strategy, or who are responsible for supervising or directing such activities. The comment period expired on May 18, 2015, and FINRA received six comment letters.17 Three 17 Letter from John Ramsay, Chief Market Policy Officer, IEX Services LLC, to Marcia E. Asquith, Corporate Secretary, FINRA, dated May 5, 2015 (‘‘IEX’’); letter from Abe Kohen, President, AK FE Consultants, LLC, to Marcia E. Asquith, Corporate Secretary, FINRA, dated May 15, 2015 (‘‘AK FE Consultants’’); letter from Mary Ann Burns, Chief Operating Officer, FIA Principal Traders Group, to Marcia E. Asquith, Corporate Secretary, FINRA, dated May 18, 2015 (‘‘FIA PTG’’); letter from Michael Hinel, Law Student Clinician, Michigan State University College of Law, to Marcia E. Asquith, Corporate Secretary, FINRA, dated May 18, 2015 (‘‘Michigan State); letter from Tom C.W. Lin, Associate Professor of Law, Temple University Beasley School of Law, to Marcia E. Asquith, Corporate Secretary, FINRA, dated May 18, 2015 (‘‘Temple’’); and letter from Richard J. McDonald, Chief Regulatory Counsel, Susquehanna International Group, to Marcia E. Asquith, VerDate Sep<11>2014 17:59 Feb 23, 2016 Jkt 238001 comment letters generally support the goal sought to be advanced by FINRA’s proposal—i.e., to help prevent securities law violations from occurring through use of algorithmic trading strategies, though some commenters suggest alternatives to the proposed approach or request clarifications.18 Scope of ‘‘Algorithmic Trading Strategy’’ IEX requests clarification on the rule’s application to different types of order routers; particularly treatment of smart order routers that route orders received from customers, but may break the order into ‘‘child’’ orders. IEX states that it would not object to the coverage of such routers, but requests clarification as to the proposal’s intended scope with respect to these routers. FINRA confirms that a smart order router that breaks orders into ‘‘child’’ orders is within the scope of ‘‘algorithmic trading strategy’’ as contemplated in this proposal. FIA PTG proposes expanding the types of systems that would fall within the scope of the Rule to include strategies that are not fully automated. FIA PTG believes that partially automated strategies may present the same potentially problematic issues as fully automated strategies. Thus, FIA PTG recommends that the proposal apply to persons engaged in the development of ‘‘automated trading functionality’’ rather than ‘‘algorithmic trading strategies.’’ FIA PTG believes this broader term—automated trading functionality—would better capture examples of both professional and retail trading systems that offer automated features, such as automation of order book sensitive pricing, automatic short order locate and marking logic, automation of trade timing based on moving reference prices, and automation of hedging or loss-limit orders among other software features. FINRA does not believe it is appropriate at this time to modify the proposal as suggested by FIA PTG. FINRA believes that it is appropriate initially to focus the scope of the Rule on systems equipped to engage in activity that could potentially result in securities law violations and, thus, has limited the scope of the proposal to automated systems that generate or route orders (or order-related messages), but does not include automated systems Corporate Secretary, FINRA, dated May 18, 2015 (‘‘SIG’’). 18 AK FE Consultants’ letter seems to misunderstand the scope of the proposed registration requirement as reaching to consultant developers that are not associated persons. As noted above, the current proposal applies to persons associated with a member firm. PO 00000 Frm 00080 Fmt 4703 Sfmt 4703 that solely route orders received in their entirety to a market center. FINRA also determined to focus the proposal on the covered activities (design, development and significant modification activities, and the day-to-day supervision or direction of such) to the extent that there was no material human intervention. Therefore, partially automated strategies would not fall within the proposal’s scope (unless such systems otherwise met the definition of ‘‘algorithmic trading strategy’’ as discussed herein). Finally, FINRA believes that some of the functionality described by FIA PTG—e.g., automation of trade timing based on moving reference prices and automation of hedging or loss-limit orders—may currently fall within the scope of the proposal and, therefore, would be covered. FINRA will further consider whether the scope of the Rule should be broadened to cover a wider range of systems once experience has been gained with the proposed narrower scope. Scope of Application to Supervisors IEX notes that, as drafted, the proposal applies to persons (i) primarily responsible for the design, development or significant modification of an algorithmic trading strategy or (ii) responsible for supervising or directing such activities. IEX suggests that the second prong should be revised to cover persons responsible for the ‘‘day-to-day’’ supervision or direction of such activities, to more clearly reflect the proposal’s intended scope. FINRA agrees that the proposal is intended to capture only those involved in the dayto-day supervision or direction of the covered activities, and has revised the proposed rule text to reflect this change. Impact on Technology Professionals Associated With Member Firms FIA PTG states that it agrees with FINRA’s view that support personnel should not be required to register. FIA PTG argues that, in addition to excluding technological or development support personnel who are not primarily responsible for the covered activities, FINRA also should exclude users of software, researchers, infrastructure developers, hardware technicians, and operations development staff. FINRA does not believe modification of the proposal is necessary. Particularly, to the extent that an associated person’s activities are limited to using software in a manner that does not amount to engaging in the covered activities, FINRA believes the proposal already is clear that such persons would E:\FR\FM\24FEN1.SGM 24FEN1 mstockstill on DSK4VPTVN1PROD with NOTICES Federal Register / Vol. 81, No. 36 / Wednesday, February 24, 2016 / Notices not be covered. In the case of the other types of personnel FIA PTG references by general job category (e.g., infrastructure developers), FINRA notes that an assessment of such persons’ activities with respect to algorithms should govern whether they are captured by the proposal, rather than a wholesale exemption based on a general job category. SIG believes that a registration requirement would discourage wellqualified developers from participating in the development of algorithmic trading strategies and affiliating with FINRA member firms, which SIG states would be broadly and materially counter-productive and may result in less market stability due to less qualified developers building algorithms. Similarly, FIA PTG notes that any time a registration requirement is not reasonably related to the role or expectations of a professional, it becomes an impediment to hiring and retention. However, FIA PTG also notes that the impact can be mitigated by avoiding prescriptive definitions, and allowing firms to use discretion when identifying the individuals who would require registration. FINRA is sensitive to the impact of the proposal on persons not currently required to register pursuant to NASD Rule 1032(f). However, given the important role that certain associated persons play in the ultimate trading activities engaged in by member firms through the employment of algorithms, FINRA continues to believe it is important to balance the concerns raised by FIA PTG and SIG with the goal of facilitating compliance with critical market and investor protection rules and, thus, has focused the scope of the proposal on those associated persons primarily responsible for the design development and significant modification of algorithmic trading strategies (and those responsible for the day-to-day supervision and direction of such activities), rather than entire departments or general job functions. As suggested by FIA PTG, FINRA’s proposal places within the responsibility of each member the task of identifying the individual or individuals primarily responsible for the activities covered by the proposal and, thus, avoids overbroad application of the Rule. Alternatives to a FINRA Registration Requirement SIG disagrees that a FINRA registration requirement would be effective in preventing algorithm trading strategies that result in improper activities or securities law violations. VerDate Sep<11>2014 17:59 Feb 23, 2016 Jkt 238001 SIG believes that robust systems controls are the most effective means of preventing the concerns raised; however, additional efforts suggested include training of technology staff, including a continuing education component (without a registration requirement), and chaperoning requirements for non-registered personnel. Michigan State supports the proposal and believes that it strikes an appropriate balance and will effectively promote both investor protection and market integrity.19 FINRA agrees that robust systems controls are a critical component in any discussion around the regulation of algorithmic trading. However, education of those responsible for the creation of an algorithmic trading strategy is a separate and equally important consideration. For example, even if an algorithm never malfunctions from a technological standpoint, its behavior nonetheless may violate securities laws if appropriate constraints were not built into the design and development phases that ensure any order generated by the algorithm observes applicable regulatory standards (e.g., entry of only bona fide orders) and incorporates necessary related tasks (e.g., short order marking and performing locates). In addition, while in-house training of firm personnel is important, FINRA does not believe it is a suitable substitution for registration and qualification in the area of securities trading.20 19 Temple somewhat supports the proposal, but suggests that the registration requirement be more firm-focused than person-focused, so that the firms with the most potential market impact would be required to register. FINRA disagrees, and believes that all persons covered by a registration category should be appropriately qualified. Temple also suggests that, in light of the rapid pace of financial innovation and technology, proposed rule initiatives should be structured as pilots, having sunset provisions, or other timesensitive mechanisms to help support the goal of rules that are reflective of the marketplace. FINRA does not believe the registration requirement should be implemented on a pilot basis, and notes that registration requirements and accompanying examinations remain reflective of the marketplace on an ongoing basis through regular review of examination content outlines and continuing educational requirements. 20 FIA PTG supports a FINRA registration requirement, but requests that a broader range of examinations be considered acceptable for purposes of the proposal, such as the Series 7. FINRA has considered whether another existing examination would be as (or more) appropriate than the Series 57, as well as whether a new examination should be created for this purpose, and continues to believe that, at this time, the Securities Trader registration category is best suited to educate associated persons that engage in the activities covered by the proposal. PO 00000 Frm 00081 Fmt 4703 Sfmt 4703 9241 III. Date of Effectiveness of the Proposed Rule Change and Timing for Commission Action Within 45 days of the date of publication of this notice in the Federal Register or within such longer period (i) as the Commission may designate up to 90 days of such date if it finds such longer period to be appropriate and publishes its reasons for so finding or (ii) as to which the self-regulatory organization consents, the Commission will: (A) by order approve or disapprove such proposed rule change, or (B) institute proceedings to determine whether the proposed rule change should be disapproved. IV. Solicitation of Comments Interested persons are invited to submit written data, views, and arguments concerning the foregoing, including whether the proposed rule change is consistent with the Act. Comments may be submitted by any of the following methods: Electronic Comments • Use the Commission’s Internet comment form (https://www.sec.gov/ rules/sro.shtml); or • Send an email to rule-comments@ sec.gov. Please include File Number SR– FINRA–2016–007 on the subject line. Paper Comments • Send paper comments in triplicate to Secretary, Securities and Exchange Commission, 100 F Street NE., Washington, DC 20549–1090. All submissions should refer to File Number SR–FINRA–2016–007. This file number should be included on the subject line if email is used. To help the Commission process and review your comments more efficiently, please use only one method. The Commission will post all comments on the Commission’s Internet Web site (https://www.sec.gov/ rules/sro.shtml). Copies of the submission, all subsequent amendments, all written statements with respect to the proposed rule change that are filed with the Commission, and all written communications relating to the proposed rule change between the Commission and any person, other than those that may be withheld from the public in accordance with the provisions of 5 U.S.C. 552, will be available for Web site viewing and printing in the Commission’s Public Reference Room, 100 F Street NE., Washington, DC 20549, on official business days between the hours of 10:00 a.m. and 3:00 p.m. Copies of such E:\FR\FM\24FEN1.SGM 24FEN1 9242 Federal Register / Vol. 81, No. 36 / Wednesday, February 24, 2016 / Notices filing also will be available for inspection and copying at the principal office of FINRA. All comments received will be posted without change; the Commission does not edit personal identifying information from submissions. You should submit only information that you wish to make available publicly. All submissions should refer to File Number SR–FINRA– 2016–007 and should be submitted on or before March 16, 2016. Department of State (telephone: 202– 632–6471; email: section2459@ state.gov). The mailing address is U.S. Department of State, L/PD, SA–5, Suite 5H03, Washington, DC 20522–0505. Dated: February 12, 2016. Mark Taplin, Deputy Assistant Secretary for Policy, Bureau of Educational and Cultural Affairs, Department of State. [FR Doc. 2016–03878 Filed 2–23–16; 8:45 am] For the Commission, by the Division of Trading and Markets, pursuant to delegated authority.21 Robert W. Errett, Deputy Secretary. [Public Notice: 9452] BILLING CODE 8011–01–P BILLING CODE 4710–05–P DEPARTMENT OF TRANSPORTATION Federal Aviation Administration [Public Notice 9453] Culturally Significant Objects Imported for Exhibition Determinations: ‘‘Gods and Mortals at Olympus: Ancient Dion, City of Zeus’’ Exhibition Notice is hereby given of the following determinations: Pursuant to the authority vested in me by the Act of October 19, 1965 (79 Stat. 985; 22 U.S.C. 2459), Executive Order 12047 of March 27, 1978, the Foreign Affairs Reform and Restructuring Act of 1998 (112 Stat. 2681, et seq.; 22 U.S.C. 6501 note, et seq.), Delegation of Authority No. 234 of October 1, 1999, Delegation of Authority No. 236–3 of August 28, 2000 (and, as appropriate, Delegation of Authority No. 257–1 of December 11, 2015), I hereby determine that the objects to be included in the exhibition ‘‘God and Mortals at Olympus: Ancient Dion, City of Zeus,’’ imported from abroad for temporary exhibition within the United States, are of cultural significance. The objects are imported pursuant to a loan agreement with the foreign owner or custodian. I also determine that the exhibition or display of the exhibit objects at the Onassis Cultural Center, New York, New York, from on about March 24, 2016, until on or about June 18, 2016, and at possible additional exhibitions or venues yet to be determined, is in the national interest. I have ordered that Public Notice of these Determinations be published in the Federal Register. FOR FURTHER INFORMATION CONTACT: For further information, including a list of the imported objects, contact the Office of Public Diplomacy and Public Affairs in the Office of the Legal Adviser, U.S. SUMMARY: 21 17 DEPARTMENT OF STATE 17:59 Feb 23, 2016 Jkt 238001 Notice is hereby given of the following determinations: Pursuant to the authority vested in me by the Act of October 19, 1965 (79 Stat. 985; 22 U.S.C. 2459), Executive Order 12047 of March 27, 1978, the Foreign Affairs Reform and Restructuring Act of 1998 (112 Stat. 2681, et seq.; 22 U.S.C. 6501 note, et seq.), Delegation of Authority No. 234 of October 1, 1999, Delegation of Authority No. 236–3 of August 28, 2000 (and, as appropriate, Delegation of Authority No. 257–1 of December 11, 2015), I hereby determine that the object to be included in the exhibition ‘‘Fables Across Time: Kalila and Dimna,’’ imported from abroad for temporary exhibition within the United States, is of cultural significance. The object is imported pursuant to a loan agreement with the foreign owner or custodian. I also determine that the exhibition or display of the exhibit object at The Children’s Museum of Indianapolis, Indianapolis, Indiana, from on about March 18, 2016, until on or about June 12, 2016, and at possible additional exhibitions or venues yet to be determined, is in the national interest. I have ordered that Public Notice of these Determinations be published in the Federal Register. SUMMARY: For further information, including an object list, contact the Office of Public Diplomacy and Public Affairs in the Office of the Legal Adviser, U.S. Department of State (telephone: 202– 632–6471; email: section2459@ state.gov). The mailing address is U.S. Department of State, L/PD, SA–5, Suite 5H03, Washington, DC 20522–0505. FOR FURTHER INFORMATION CONTACT: PO 00000 Frm 00082 Fmt 4703 Federal Aviation Administration, (FAA), DOT. ACTION: Notice. AGENCY: CFR 200.30–3(a)(12). VerDate Sep<11>2014 Noise Exposure Map Notice for Los Angeles International Airport, Los Angeles, California Culturally Significant Object Imported for Exhibition Determinations: ‘‘Fables Across Time: Kalila and Dimna’’ Exhibition DEPARTMENT OF STATE mstockstill on DSK4VPTVN1PROD with NOTICES [FR Doc. 2016–03879 Filed 2–23–16; 8:45 am] BILLING CODE 4710–05–P [FR Doc. 2016–03794 Filed 2–23–16; 8:45 am] Dated: February 17, 2016. Mark Taplin, Deputy Assistant Secretary for Policy, Bureau of Educational and Cultural Affairs, Department of State. Sfmt 4703 The Federal Aviation Administration (FAA) announces its determination that the noise exposure maps submitted by Los Angeles World Airports, for Los Angeles International Airport under the provisions of 49 U.S.C. 47501 et. seq (Aviation Safety and Noise Abatement Act) and 14 CFR part 150 are in compliance with applicable requirements. DATES: The effective date of the FAA’s determination on the noise exposure maps is February 24, 2016 and applicable February 12, 2016. FOR FURTHER INFORMATION CONTACT: Victor Globa, Environmental Protection Specialist, Federal Aviation Administration, Los Angeles Airports District Office, Mailing Address: P.O. Box 92007, Los Angeles, California 90009–2007. Street Address: 15000 Aviation Boulevard, Hawthorne, California 90261. Telephone: 310/725– 3637. SUMMARY: This notice announces that the FAA finds that the noise exposure maps submitted for Los Angeles International Airport are in compliance with applicable requirements of Title14, Code of Federal Regulations (CFR) Part 150 (hereinafter referred to as ‘‘Part 150’’), effective February 12, 2016. Under 49 U.S.C. Section 47503 of the Aviation Safety and Noise Abatement Act (hereinafter referred to as ‘‘the Act’’), an airport operator may submit to the FAA noise exposure maps which meet applicable regulations and which depict noncompatible land uses as of the date of submission of such maps, a description of projected aircraft operations, and the ways in which such operations will affect such maps. The Act requires such maps to be developed in consultation with interested and affected parties in the local community, government SUPPLEMENTARY INFORMATION: E:\FR\FM\24FEN1.SGM 24FEN1

Agencies

SECURITIES AND EXCHANGE COMMISSION

[Federal Register Volume 81, Number 36 (Wednesday, February 24, 2016)]
[Notices]
[Pages 9235-9242]
From the Federal Register Online via the Government Publishing Office [www.gpo.gov]
[FR Doc No: 2016-03794]


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SECURITIES AND EXCHANGE COMMISSION

[Release No. 34-77175; File No. SR-FINRA-2016-007]


Self-Regulatory Organizations; Financial Industry Regulatory 
Authority, Inc.; Notice of Filing of a Proposed Rule Change To Require 
Registration as Securities Traders of Associated Persons Primarily 
Responsible for the Design, Development or Significant Modification of 
Algorithmic Trading Strategies

February 18, 2016.
    Pursuant to Section 19(b)(1) of the Securities Exchange Act of 1934 
(``Act'') \1\ and Rule 19b-4 thereunder,\2\ notice is hereby given that 
on February 11, 2016, Financial Industry Regulatory Authority, Inc. 
(``FINRA'') (f/k/a National Association of Securities

[[Page 9236]]

Dealers, Inc. (``NASD'')) filed with the Securities and Exchange 
Commission (``SEC'' or ``Commission'') the proposed rule change as 
described in Items I, II, and III below, which Items have been prepared 
by FINRA. The Commission is publishing this notice to solicit comments 
on the proposed rule change from interested persons.
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    \1\ 15 U.S.C. 78s(b)(1).
    \2\ 17 CFR 240.19b-4.
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I. Self-Regulatory Organization's Statement of the Terms of Substance 
of the Proposed Rule Change

    FINRA is proposing to require registration as Securities Traders of 
associated persons primarily responsible for the design, development or 
significant modification of algorithmic trading strategies, or who are 
responsible for the day-to-day supervision or direction of such 
activities.
    The text of the proposed rule change is available on FINRA's Web 
site at https://www.finra.org, at the principal office of FINRA and at 
the Commission's Public Reference Room.

II. Self-Regulatory Organization's Statement of the Purpose of, and 
Statutory Basis for, the Proposed Rule Change

    In its filing with the Commission, FINRA included statements 
concerning the purpose of and basis for the proposed rule change and 
discussed any comments it received on the proposed rule change. The 
text of these statements may be examined at the places specified in 
Item IV below. FINRA has prepared summaries, set forth in sections A, 
B, and C below, of the most significant aspects of such statements.

A. Self-Regulatory Organization's Statement of the Purpose of, and 
Statutory Basis for, the Proposed Rule Change

1. Purpose
    NASD Rule 1032(f) (the ``Rule'') generally provides that each 
person associated with a member included within the definition of a 
representative must register with FINRA as a Securities Trader if, with 
respect to transactions in equity, preferred or convertible debt 
securities effected otherwise than on a securities exchange, such 
person is engaged in proprietary trading, the execution of transactions 
on an agency basis, or the direct supervision of such activities.\3\ 
This registration requirement currently does not reach associated 
persons that solely are involved in the design, development or 
significant modification of algorithmic trading strategies.
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    \3\ Before registration as a Securities Trader may become 
effective, an applicant must pass the Securities Trader 
qualification examination. A FINRA rule change establishing the 
Securities Trader registration category and qualification 
examination (which replaced the Equity Trader registration category 
and qualification examination) was approved by the SEC on August 28, 
2015. In this filing, FINRA also established a new principal 
registration category--Securities Trader Principal--for a principal 
with supervisory responsibility over securities trading activities. 
The effective date of the registration category and qualification 
examination requirement for Securities Traders and Securities Trader 
Principals was January 4, 2016. See Securities Exchange Act Release 
No. 75783, 80 FR 53369 (September 3, 2015) (Order Approving File No. 
SR-FINRA-2015-017); and Regulatory Notice 15-45 (November 2015). See 
also Securities Exchange Act Release No. 75394 (July 8, 2015), 80 FR 
41119 (July 14, 2015) (Notice of Filing of File No. SR-FINRA-2015-
017).
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    Given the prevalence of use of algorithmic trading strategies by 
members, and the resultant significant role such systems play in 
today's markets, FINRA proposes that associated persons primarily 
responsible for the design, development or significant modification of 
algorithmic trading strategies (or responsible for the day-to-day 
supervision or direction of such activities) be required to register as 
Securities Traders with FINRA and, thus, required to pass the requisite 
qualification examination and be subject to the same continuing 
education requirements as are applicable to individual securities 
traders. FINRA is concerned that problematic conduct stemming from 
algorithmic trading strategies, such as failure to check for order 
accuracy, inappropriate levels of messaging traffic, wash sales, 
failure to mark orders as ``short'' or perform proper short sale 
``locates,'' and inadequate risk management controls, could be reduced 
or prevented, in part, through improved education regarding securities 
regulations for the specified individuals involved in the algorithm 
design and development process.\4\
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    \4\ See Regulatory Notice 15-06 (Registration of Associated 
Persons Who Develop Algorithmic Trading Strategies) (March 2015), in 
which FINRA solicited comment on the proposed registration 
requirement.
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Scope of ``Algorithmic Trading Strategy''
    For purposes of the proposal, an ``algorithmic trading strategy'' 
is an automated system that generates or routes orders or order-related 
messages such as routes or cancellations, but does not include an 
automated system that solely routes orders received in their entirety 
to a market center. As markets change, the scope of what would be 
considered an algorithmic trading strategy will continue to evolve as 
new trading strategies are designed and developed.
    For example, FINRA has observed the following types of automated 
systems that would be included within the proposed definition of 
``algorithmic trading strategy:''
     An arbitrage strategy, such as index or exchange-traded 
fund (ETF) arbitrage;
     A hedging or loss-limit algorithmic strategy that 
generates orders on an automated basis;
     A strategy that involves simultaneously trading of two or 
more correlated securities due to the divergence in their prices or 
other trading attributes;
     An order generation, routing and execution program used 
for large-sized orders that involve dividing the order into smaller-
sized orders less likely to result in market impact;
     An order routing strategy used to determine the price or 
size for routed orders, the use of ``parent'' or ``child'' orders, or 
displayed versus non-displayed trading interest;
     A trading strategy that becomes more or less aggressive to 
correlate with trading volume in specified securities;
     A trading strategy that generates orders based on moving 
reference prices;
     A trading strategy that minimizes intra-day slippage in 
connection with achieving volume-weighted average prices and time-
weighted average prices; and
     A strategy that creates or liquidates baskets of 
securities, including those that track indexes or ETFs.
    The above is not an exhaustive list of the types of automated 
functionality that will be deemed an ``algorithmic trading strategy'' 
under the proposal. FINRA expects that members will register associated 
persons primarily responsible for the design, development or 
significant modification of automated programs (and day-to-day 
supervision or direction of such activities) that generate orders into 
the marketplace or execute trades without material intervention by any 
person. While NASD Rule 1032(f) currently is limited to activity 
effected otherwise than on a securities exchange, the proposed 
registration requirement applies to orders and order related messages 
whether ultimately routed (or sent to be routed) to an exchange or over 
the counter.
    For the purpose of this proposal, an order router alone would not 
constitute an algorithmic trading strategy; for example, a standard 
order router that routes retail orders in their entirety to a 
particular market center for handling and execution would not be 
considered an algorithmic trading strategy. If an order router performs 
any additional

[[Page 9237]]

functions, such as those set forth above, it would be considered an 
algorithmic trading strategy. In addition, an algorithm that solely 
generates trading ideas or investment allocations, including an 
automated investment service that constructs portfolio recommendations, 
but that is not equipped to automatically generate orders and order-
related messages to effectuate such trading ideas into the market 
(whether independently or via a linked router), would not constitute an 
algorithmic trading strategy for purposes of the proposal.
Scope of Registration Requirement
    FINRA developed the proposed registration requirement to address 
concerns around the role of algorithmic trading strategies in 
problematic marketplace conduct by member firms. Pursuant to the 
proposal, associated persons primarily responsible for the design, 
development or significant modification \5\ of algorithmic trading 
strategies (or responsible for the day-to-day supervision or direction 
of such activities) would be required to take a qualification 
examination and be subject to continuing education requirements. As 
noted above, FINRA published Regulatory Notice 15-06 to solicit comment 
on the proposed registration requirement. FINRA received feedback from 
members, including requesting clarification and guidance on FINRA's 
expectations around supervision, and registration of supervisors, in 
connection with the proposal.\6\ The majority of these questions and 
concerns focused on firm personnel not currently required to register 
pursuant to the Rule. For example, while an equity trader involved in 
the design of an algorithmic trading strategy already would be required 
to register pursuant to NASD Rule 1032(f), the developer with which the 
trader collaborates to create an algorithmic trading strategy may not 
be. Members have inquired whether, in such cases, the registration 
requirement would extend to other coders on the development team or 
persons higher in the developer's reporting line.
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    \5\ A ``significant modification'' to an algorithmic trading 
strategy generally would be any change to the code of the algorithm 
that impacts the logic and functioning of the trading strategy 
employed by the algorithm. Therefore, for example, a data feed/data 
vendor change generally would not be considered a ``significant 
modification,'' whereas a change to a benchmark (such as an index) 
used by the strategy generally would be considered a ``significant 
modification.''
    FINRA notes that, even in cases where a modification is not 
significant and, therefore, would not be required to be performed by 
a registered Securities Trader pursuant to this proposal, as stated 
in Regulatory Notice 15-09, firms should also focus efforts on the 
development of algorithmic strategies and on how those strategies 
are tested and implemented, including, among other things, 
implementing a change management process that tracks the development 
of new trading code or material changes to existing code. An 
effective process should include a review of test results and a set 
of approval protocols that are appropriate given the scope of the 
code or any change(s) to the code. See Regulatory Notice 15-09 
(Guidance on Effective Supervision and Control Practices for Firms 
Engaging in Algorithmic Trading Strategies) (March 2015).
    \6\ See supra note 4. The comments and FINRA's response are 
discussed in Item II.C. below.
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    While workflows, structures and roles may differ across members, in 
proposing this amendment, FINRA seeks to ensure that members identify 
and register associated persons primarily responsible for the design, 
development or significant modification of algorithmic trading 
strategies (or responsible for the day-to-day supervision or direction 
of such activities). In establishing this requirement, FINRA seeks to 
ensure that one or more associated persons that possess knowledge of, 
and responsibility for, both the design of the intended trading 
strategy (e.g., the arbitrage strategy) and the technological 
implementation of such strategy (e.g., coding), sufficient to evaluate 
whether the resultant product is designed not only to achieve business 
objectives, but also regulatory compliance. As stated in Regulatory 
Notice 15-06, FINRA does not intend the registration requirement to 
apply to every associated person that touches or otherwise is involved 
in the design or development of a trading algorithm.
    For example, if a sole associated person determines the design of 
the trading strategy employed by an algorithm, writes the code to 
effectuate such strategy, and executes or directs the modification of 
such code going forward, then that person alone would be required to 
register as a Securities Trader under the proposal.\7\
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    \7\ It is understood that various technology and other firm 
personnel are involved in additional tasks necessary to launch an 
algorithmic trading strategy into production--such as integrating 
the algorithm into the firm's technological infrastructure and 
testing linkages. However, because these activities generally would 
not be considered to be design, development or significant 
modification activities with respect to the algorithm itself, 
registration of such personnel as Securities Traders would not be 
required pursuant to this proposal.
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    In contrast, where a lead developer liaises with a head trader 
regarding the head trader's desired algorithmic trading strategy, and 
is primarily responsible for the supervision of the development of the 
algorithm to meet such objectives, such lead developer must be 
registered under the proposal as the associated person primarily 
responsible for the development of the algorithmic trading strategy and 
supervising or directing the team of developers. Individuals under the 
lead developer's supervision would not be required to register under 
the proposal if they are not primarily responsible for the development 
of the algorithmic trading strategy or are not responsible for the day-
to-day supervision or direction of others on the team.\8\ Under this 
scenario, the person on the business side that is primarily responsible 
for the design of the algorithmic trading strategy, as communicated to 
the lead developer, also would be required to register (if not already 
required to register as a Securities Trader due to their other duties). 
In the event of a significant modification to the algorithm, members, 
likewise, must ensure that the associated person primarily responsible 
for the significant modification (or the associated person supervising 
or directing such activity), is registered as a Securities Trader.\9\
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    \8\ For example, a junior developer on the lead developer's team 
presumably is not ``primarily'' responsible for the design, 
development or significant modification of an algorithmic trading 
strategy and, therefore, would not be required to register under the 
proposal. By limiting the registration requirements to those persons 
primarily responsible for the design, development or significant 
modification of algorithmic trading strategies (or responsible for 
the day-to-day supervision or direction of such activities) FINRA 
aims to ensure that the member has identified the individuals 
primarily responsible for covered activities, and for the day-to-day 
supervision and direction of covered activities, and equip them with 
a basic level of familiarity with the regulatory obligations of the 
firm employing the algorithm. FINRA expects that the competency of 
these associated persons will inform the behaviors of those acting 
under their supervision or at their direction.
    \9\ In certain cases, the design of a new algorithmic trading 
strategy (or significant modification to an existing strategy) may 
be originated and approved by a committee within the firm, including 
by committee members whose roles may be unrelated to trading or 
development (e.g., sales personnel providing insight regarding 
client needs or research analysts regarding sector trends). In such 
cases, FINRA would not consider each committee member to be 
primarily responsible for the design or significant modification of 
the algorithmic trading strategy, so long as an appropriately 
registered associated person is designated as primarily responsible 
for defining the business requirements of the trading strategy to be 
employed by the algorithm.
---------------------------------------------------------------------------

    To clarify the scope of the proposed requirement, the proposed rule 
provides that only those persons involved in the ``day-to-day'' 
supervision or direction of the activities covered by this proposal 
would be required to register. Thus, each person associated with a 
member must register as a Securities Trader if such person is (i) 
primarily responsible for the design, development or significant 
modification of an

[[Page 9238]]

algorithmic trading strategy relating to equity (including options), 
preferred or convertible debt securities; or (ii) responsible for the 
day-to-day supervision or direction of such activities.\10\
---------------------------------------------------------------------------

    \10\ As discussed further below, a senior or lead developer's 
supervisor would not necessarily be required to be registered under 
the proposal if that person is not involved in the day-to-day 
supervision or direction of the development process.
---------------------------------------------------------------------------

    FINRA notes that FINRA Rule 3110(a)(2) generally requires that all 
registered persons be designated to an appropriately registered 
principal or principals with authority to carry out the supervisory 
responsibilities of the member for each type of business in which it 
engages for which registration as a broker-dealer is required. With the 
addition of this new activity to the Securities Trader registration 
category, members will be required to designate developers to a 
registered principal for Rule 3110(a)(2) purposes. In such instances, 
FINRA believes it is appropriate that members may ``assign'' a lead 
algorithm developer (or other non-trader) engaging in covered 
activities to one or more other registered persons of the member that 
supervise trading activities outside such developer's or other non-
trader's usual reporting line.
    While the adequacy of a member's supervisory structure must be 
evaluated on an individual firm basis, members are afforded a degree of 
flexibility in arranging for the appropriate supervision of a lead 
developer (or other non-trader) that engages in covered activities, 
such as by assigning such person to:
     A Securities Trader Principal \11\ in the member's trading 
business line (e.g., the Securities Trader Principal in the reporting 
line of a Securities Trader primarily responsible for the design of any 
algorithmic trading strategy); or
---------------------------------------------------------------------------

    \11\ To qualify for registration as a Securities Trader 
Principal, an individual must be registered as a Securities Trader 
(Series 57) and pass the General Securities Principal qualification 
examination (Series 24). See supra note 3.
---------------------------------------------------------------------------

     A Securities Trader in the member's trading business line 
(e.g., a Securities Trader primarily responsible for the design of an 
algorithmic trading strategy, including the strategy developed by the 
lead developer); or
     More than one registered person, provided that the 
supervisor responsible for the lead algorithm developer's activities 
requiring registration as a Securities Trader must be registered as a 
Securities Trader or Securities Trader Principal.\12\
---------------------------------------------------------------------------

    \12\ Another registered person--e.g., a General Securities 
Representative--may be assigned to supervise the lead algorithm 
developer with regard to other general areas applicable to 
registered reps, such as outside business activities.
    As always, if the activities of a registered representative are 
assigned to be supervised by more than one registered representative 
or principal, the member must clearly document which activities are 
assigned to be supervised by each responsible party.

Accordingly, the proposal may not necessarily trigger registration 
requirements for the current supervisor of algorithm design or 
development personnel if such supervisor is not responsible for the 
day-to-day supervision or direction of the specific activities covered 
by this proposal. However, the firm must designate an appropriately 
registered person to be responsible for supervising the algorithmic 
trading strategy activities.
Third-Party Algorithms
    In some cases, an algorithmic trading strategy employed by a member 
may not have originated in-house and, therefore, may not have been 
designed or built by the member's associated persons. In cases where 
the design and development of an algorithmic trading strategy was 
performed solely by a third-party, the proposed registration 
requirement would not apply to the member with regard to the design or 
development of such algorithm. However, FINRA notes that, to the extent 
associated persons were involved in the design or development, or are 
able to significantly modify the algorithmic trading strategy in-house, 
such persons must be registered as Securities Traders.\13\
---------------------------------------------------------------------------

    \13\ See supra note 5.
---------------------------------------------------------------------------

    A member also may engage a third-party to custom-build an 
algorithmic trading strategy for the member. In such cases, the 
associated person responsible for directing the third-party in the 
design, development or significant modification of the algorithmic 
trading strategy also would be included within the scope of this 
proposal and must be registered as a Securities Trader. Similarly, 
after the member has launched the externally built algorithm, any 
significant modification by the member to such algorithm must be 
performed by a registered Securities Trader.
    FINRA notes that, irrespective of whether an algorithm is designed 
or developed in-house or by a third-party, the member employing the 
algorithm continues to be responsible for the algorithm's activities. 
Thus, in all cases, robust supervisory procedures, both prior to and 
after deployment of an algorithmic trading strategy, are a key 
component in protecting against problematic behavior stemming from 
algorithmic trading.\14\ In addition, as is the case under the current 
rules, associated persons responsible for monitoring or reviewing the 
performance of an algorithmic trading strategy must be registered 
pursuant to NASD Rule 1032(f); a member's trading activity must always 
be supervised by an appropriately registered person. Therefore, even 
where a firm purchases an algorithm off-the-shelf and does not 
significantly modify the algorithm, the associated person responsible 
for monitoring or reviewing the performance of the algorithm must be 
registered pursuant to NASD Rule 1032(f).
---------------------------------------------------------------------------

    \14\ See Regulatory Notice 15-09 (Guidance on Effective 
Supervision and Control Practices for Firms Engaging in Algorithmic 
Trading Strategies) (March 2015).
---------------------------------------------------------------------------

    As noted in Item 2 of this filing, if the Commission approves the 
proposed rule change, FINRA will announce the effective date of the 
proposed rule change in a Regulatory Notice to be published no later 
than 60 days following Commission approval. The effective date will be 
no sooner than 180 days following publication of the Regulatory Notice 
but no later than 300 days following Commission approval.
2. Statutory Basis
    FINRA believes that the proposed rule change is consistent with the 
provisions of Section 15A(b)(6) of the Act,\15\ which requires, among 
other things, that FINRA rules must be designed to prevent fraudulent 
and manipulative acts and practices, to promote just and equitable 
principles of trade, and, in general, to protect investors and the 
public interest.
---------------------------------------------------------------------------

    \15\ 15 U.S.C. 78o-3(b)(6).
---------------------------------------------------------------------------

    The prevalence of use of algorithms in the marketplace has 
highlighted the risks that arise when such strategies are poorly 
designed. FINRA has observed situations in which algorithmic trading 
strategies have resulted in manipulative trading activities and 
potential securities law violations, including of SEC Regulation NMS, 
SEC Regulation SHO, SEA Rule 15c3-5 and other critical market and 
investor protection safeguards. This proposal requires associated 
persons primarily responsible for the design, development or 
significant modification of an algorithmic trading strategy (or 
responsible for the day-to-day supervision or direction of such 
activities) to meet a minimum standard of knowledge regarding the 
securities rules and regulations applicable to the member employing the 
algorithmic trading strategy that is identical to the

[[Page 9239]]

standard of knowledge applicable to traditional securities traders.
    FINRA believes that problematic market conduct may be reduced 
through improved education of firm personnel regarding securities 
regulations. FINRA also believes that the proposal will help clarify 
members' obligations with respect to FINRA's expectations regarding 
associated persons primarily responsible for the design, development or 
significant modification of algorithmic trading strategies (or 
responsible for the day-to-day supervision or direction of such 
activities). Thus, FINRA believes that the proposed rule change is 
consistent with the provisions of Section 15A(b)(6) of the Act,\16\ in 
that it is designed to prevent fraudulent and manipulative acts and 
practices, to promote just and equitable principles of trade, and, in 
general, to protect investors and the public interest.
---------------------------------------------------------------------------

    \16\ 15 U.S.C. 78o-3(b)(6).
---------------------------------------------------------------------------

B. Self-Regulatory Organization's Statement on Burden on Competition

    FINRA does not believe that the proposed rule change will result in 
any burden on competition that is not necessary or appropriate in 
furtherance of the purposes of the Act.
Economic Impact Assessment
Need for the Rule
    FINRA is concerned that associated persons primarily responsible 
for the design, development or significant modification of algorithmic 
trading strategies (or who are responsible for the day-to-day 
supervision or direction of such activities) may lack adequate 
knowledge regarding the securities rules and regulations applicable to 
FINRA members operating in the securities markets. This lack of 
knowledge could result in algorithms that do not comply with applicable 
rules. As noted above, FINRA has observed situations in which 
algorithmic trading strategies have resulted in manipulative trading 
activities and potential securities law violations. Further, FINRA 
notes that, under the current regulatory structure, some individuals 
primarily responsible for the design, development or significant 
modification of algorithmic trading strategies (or who are responsible 
for the day-to-day supervision or direction of such activities) may 
claim that they are not required to be aware of the firms' 
responsibilities under applicable securities rules and regulations. The 
proposed rule would close this gap in regulatory oversight.
    The proposed rule change is intended to enhance investor protection 
by limiting the development of algorithms designed in conflict with 
securities rules and regulations. The proposal may also reduce 
uncertainty by certain market participants of their obligations. It 
aims to do so through a registration requirement and improved education 
regarding securities regulations for specified individuals involved in 
the algorithm design and development process.
Economic Baseline
    The registration requirements for associated persons under current 
FINRA rules serve as an economic baseline of the proposed rule change. 
Currently, associated persons that solely are primarily responsible for 
the design, development or significant modification of an algorithmic 
trading strategy (or who are responsible for the day-to-day supervision 
or direction of such activities) are not required to register with 
FINRA as Securities Traders. The economic impacts of the proposal 
depend on the number of additional individuals that would be covered by 
the proposed registration requirement.
    Pursuant to the proposed rule change, associated persons primarily 
responsible for the design, development or significant modification of 
algorithmic trading strategies (or responsible for the day-to-day 
supervision or direction of such activities) would be required to 
register as Securities Traders with FINRA. Under current FINRA rules, 
it is likely that many of the associated persons primarily responsible 
for the design of algorithmic trading strategies already are 
registered, assuming that they also engage in traditional trading 
activities. Associated persons primarily responsible for the 
development of algorithmic trading strategies are likely not 
registered. With regard to supervisors, as noted above, FINRA believes 
it appropriate for members to ``assign'' a lead algorithm developer 
engaging in covered activities to certain registered persons 
supervising trading activities outside such developer's usual reporting 
line. Therefore, many of the associated persons responsible for the 
day-to-day supervision or direction of the design, development or 
significant modification of algorithmic trading strategies may have 
already registered.
    In Regulatory Notice 15-06, FINRA sought comment on the number of 
persons who conduct activity that may be covered by the proposed rule 
change, but did not receive any quantitative estimates. Given the 
diverse nature of the activity and organizational structures among 
firms, it is not possible for FINRA to accurately estimate the number 
of persons who are primarily responsible for the design, development or 
significant modification of algorithmic trading strategies. FINRA is, 
however, aware of anecdotal information that suggests that these 
activities represent significant numbers of personnel for some firms. 
Currently, some firms may be organized such that the covered activities 
are supervised by a registered person, but in other cases the 
activities are managed separately.
Economic Impacts
    The proposed rule change is expected to enhance investor protection 
and member compliance by limiting problematic conduct stemming from 
algorithmic trading strategies. It should also reduce uncertainty by 
certain market participants of their obligations.
    FINRA recognizes that the proposal would impose costs on member 
firms employing associated persons engaged in the activity subject to 
the registration requirement. Specifically, among other things, 
additional associated persons would be required to become registered 
under the proposal, and the firm would need to establish policies and 
procedures to monitor compliance with the proposed requirement on an 
ongoing basis. In Regulatory Notice 15-06, FINRA solicited public 
comment on the estimated number of member firms that would be affected 
by the proposal, the estimated number of associated persons not 
currently required to register as Securities Traders that would be 
covered by the proposal, and the estimated costs associated with 
monitoring compliance with the proposed requirement. FINRA did not 
receive any estimates of these metrics. As discussed above, FINRA 
expects that most of the costs would be related to the registration and 
continuing education requirements for associated persons primarily 
responsible for the design, development or significant modification of 
algorithmic trading strategies. Some of the costs may be passed on to 
the associated persons depending on member firm policies regarding 
examination and examination preparation costs.
    The proposal also may have indirect impacts on member firms. For 
example, it may discourage persons not currently required to register 
as Securities Traders, such as some algorithm developers, from 
associating with a member firm in a capacity that requires 
registration.
    However, given the prevalence and importance of algorithmic trading 
strategies in today's markets, FINRA

[[Page 9240]]

believes that associated persons engaged in the activities covered by 
this proposal must meet a minimum standard of knowledge regarding the 
applicable securities rules and regulations. To mitigate the costs 
imposed on member firms, the proposed rule change limits the scope of 
registration requirement by excluding technological or development 
support personnel who are not primarily responsible for the covered 
activities. It also excludes supervisors who are not responsible for 
the ``day-to-day'' supervision or direction of the covered activities. 
Moreover, FINRA believes that it is appropriate for firms to ``assign'' 
lead algorithm developers or other non-traders engaging in covered 
activities to certain supervisors that are existing registered persons.
Alternatives Considered
    As discussed in the Statement on Comments below, FINRA considered 
in-house training of firm personnel as an alternative to the proposed 
registration and qualification requirements. FINRA also considered 
whether another existing examination would be as (or more) appropriate 
than the Securities Trader qualification examination. FINRA believes 
that the proposed registration and continuing education requirements 
are best suited for associated persons engaging in covered activities.

C. Self-Regulatory Organization's Statement on Comments on the Proposed 
Rule Change Received From Members, Participants, or Others

    On March 19, 2015, FINRA published Regulatory Notice 15-06 
soliciting comment on the proposed registration of associated persons 
primarily responsible for the design, development or significant 
modification of an algorithmic trading strategy, or who are responsible 
for supervising or directing such activities. The comment period 
expired on May 18, 2015, and FINRA received six comment letters.\17\ 
Three comment letters generally support the goal sought to be advanced 
by FINRA's proposal--i.e., to help prevent securities law violations 
from occurring through use of algorithmic trading strategies, though 
some commenters suggest alternatives to the proposed approach or 
request clarifications.\18\
---------------------------------------------------------------------------

    \17\ Letter from John Ramsay, Chief Market Policy Officer, IEX 
Services LLC, to Marcia E. Asquith, Corporate Secretary, FINRA, 
dated May 5, 2015 (``IEX''); letter from Abe Kohen, President, AK FE 
Consultants, LLC, to Marcia E. Asquith, Corporate Secretary, FINRA, 
dated May 15, 2015 (``AK FE Consultants''); letter from Mary Ann 
Burns, Chief Operating Officer, FIA Principal Traders Group, to 
Marcia E. Asquith, Corporate Secretary, FINRA, dated May 18, 2015 
(``FIA PTG''); letter from Michael Hinel, Law Student Clinician, 
Michigan State University College of Law, to Marcia E. Asquith, 
Corporate Secretary, FINRA, dated May 18, 2015 (``Michigan State); 
letter from Tom C.W. Lin, Associate Professor of Law, Temple 
University Beasley School of Law, to Marcia E. Asquith, Corporate 
Secretary, FINRA, dated May 18, 2015 (``Temple''); and letter from 
Richard J. McDonald, Chief Regulatory Counsel, Susquehanna 
International Group, to Marcia E. Asquith, Corporate Secretary, 
FINRA, dated May 18, 2015 (``SIG'').
    \18\ AK FE Consultants' letter seems to misunderstand the scope 
of the proposed registration requirement as reaching to consultant 
developers that are not associated persons. As noted above, the 
current proposal applies to persons associated with a member firm.
---------------------------------------------------------------------------

Scope of ``Algorithmic Trading Strategy''
    IEX requests clarification on the rule's application to different 
types of order routers; particularly treatment of smart order routers 
that route orders received from customers, but may break the order into 
``child'' orders. IEX states that it would not object to the coverage 
of such routers, but requests clarification as to the proposal's 
intended scope with respect to these routers. FINRA confirms that a 
smart order router that breaks orders into ``child'' orders is within 
the scope of ``algorithmic trading strategy'' as contemplated in this 
proposal.
    FIA PTG proposes expanding the types of systems that would fall 
within the scope of the Rule to include strategies that are not fully 
automated. FIA PTG believes that partially automated strategies may 
present the same potentially problematic issues as fully automated 
strategies. Thus, FIA PTG recommends that the proposal apply to persons 
engaged in the development of ``automated trading functionality'' 
rather than ``algorithmic trading strategies.'' FIA PTG believes this 
broader term--automated trading functionality--would better capture 
examples of both professional and retail trading systems that offer 
automated features, such as automation of order book sensitive pricing, 
automatic short order locate and marking logic, automation of trade 
timing based on moving reference prices, and automation of hedging or 
loss-limit orders among other software features.
    FINRA does not believe it is appropriate at this time to modify the 
proposal as suggested by FIA PTG. FINRA believes that it is appropriate 
initially to focus the scope of the Rule on systems equipped to engage 
in activity that could potentially result in securities law violations 
and, thus, has limited the scope of the proposal to automated systems 
that generate or route orders (or order-related messages), but does not 
include automated systems that solely route orders received in their 
entirety to a market center. FINRA also determined to focus the 
proposal on the covered activities (design, development and significant 
modification activities, and the day-to-day supervision or direction of 
such) to the extent that there was no material human intervention. 
Therefore, partially automated strategies would not fall within the 
proposal's scope (unless such systems otherwise met the definition of 
``algorithmic trading strategy'' as discussed herein). Finally, FINRA 
believes that some of the functionality described by FIA PTG--e.g., 
automation of trade timing based on moving reference prices and 
automation of hedging or loss-limit orders--may currently fall within 
the scope of the proposal and, therefore, would be covered. FINRA will 
further consider whether the scope of the Rule should be broadened to 
cover a wider range of systems once experience has been gained with the 
proposed narrower scope.
Scope of Application to Supervisors
    IEX notes that, as drafted, the proposal applies to persons (i) 
primarily responsible for the design, development or significant 
modification of an algorithmic trading strategy or (ii) responsible for 
supervising or directing such activities. IEX suggests that the second 
prong should be revised to cover persons responsible for the ``day-to-
day'' supervision or direction of such activities, to more clearly 
reflect the proposal's intended scope. FINRA agrees that the proposal 
is intended to capture only those involved in the day-to-day 
supervision or direction of the covered activities, and has revised the 
proposed rule text to reflect this change.
Impact on Technology Professionals Associated With Member Firms
    FIA PTG states that it agrees with FINRA's view that support 
personnel should not be required to register. FIA PTG argues that, in 
addition to excluding technological or development support personnel 
who are not primarily responsible for the covered activities, FINRA 
also should exclude users of software, researchers, infrastructure 
developers, hardware technicians, and operations development staff.
    FINRA does not believe modification of the proposal is necessary. 
Particularly, to the extent that an associated person's activities are 
limited to using software in a manner that does not amount to engaging 
in the covered activities, FINRA believes the proposal already is clear 
that such persons would

[[Page 9241]]

not be covered. In the case of the other types of personnel FIA PTG 
references by general job category (e.g., infrastructure developers), 
FINRA notes that an assessment of such persons' activities with respect 
to algorithms should govern whether they are captured by the proposal, 
rather than a wholesale exemption based on a general job category.
    SIG believes that a registration requirement would discourage well-
qualified developers from participating in the development of 
algorithmic trading strategies and affiliating with FINRA member firms, 
which SIG states would be broadly and materially counter-productive and 
may result in less market stability due to less qualified developers 
building algorithms. Similarly, FIA PTG notes that any time a 
registration requirement is not reasonably related to the role or 
expectations of a professional, it becomes an impediment to hiring and 
retention. However, FIA PTG also notes that the impact can be mitigated 
by avoiding prescriptive definitions, and allowing firms to use 
discretion when identifying the individuals who would require 
registration.
    FINRA is sensitive to the impact of the proposal on persons not 
currently required to register pursuant to NASD Rule 1032(f). However, 
given the important role that certain associated persons play in the 
ultimate trading activities engaged in by member firms through the 
employment of algorithms, FINRA continues to believe it is important to 
balance the concerns raised by FIA PTG and SIG with the goal of 
facilitating compliance with critical market and investor protection 
rules and, thus, has focused the scope of the proposal on those 
associated persons primarily responsible for the design development and 
significant modification of algorithmic trading strategies (and those 
responsible for the day-to-day supervision and direction of such 
activities), rather than entire departments or general job functions. 
As suggested by FIA PTG, FINRA's proposal places within the 
responsibility of each member the task of identifying the individual or 
individuals primarily responsible for the activities covered by the 
proposal and, thus, avoids overbroad application of the Rule.
Alternatives to a FINRA Registration Requirement
    SIG disagrees that a FINRA registration requirement would be 
effective in preventing algorithm trading strategies that result in 
improper activities or securities law violations. SIG believes that 
robust systems controls are the most effective means of preventing the 
concerns raised; however, additional efforts suggested include training 
of technology staff, including a continuing education component 
(without a registration requirement), and chaperoning requirements for 
non-registered personnel. Michigan State supports the proposal and 
believes that it strikes an appropriate balance and will effectively 
promote both investor protection and market integrity.\19\
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    \19\ Temple somewhat supports the proposal, but suggests that 
the registration requirement be more firm-focused than person-
focused, so that the firms with the most potential market impact 
would be required to register. FINRA disagrees, and believes that 
all persons covered by a registration category should be 
appropriately qualified.
    Temple also suggests that, in light of the rapid pace of 
financial innovation and technology, proposed rule initiatives 
should be structured as pilots, having sunset provisions, or other 
time-sensitive mechanisms to help support the goal of rules that are 
reflective of the marketplace. FINRA does not believe the 
registration requirement should be implemented on a pilot basis, and 
notes that registration requirements and accompanying examinations 
remain reflective of the marketplace on an ongoing basis through 
regular review of examination content outlines and continuing 
educational requirements.
---------------------------------------------------------------------------

    FINRA agrees that robust systems controls are a critical component 
in any discussion around the regulation of algorithmic trading. 
However, education of those responsible for the creation of an 
algorithmic trading strategy is a separate and equally important 
consideration. For example, even if an algorithm never malfunctions 
from a technological standpoint, its behavior nonetheless may violate 
securities laws if appropriate constraints were not built into the 
design and development phases that ensure any order generated by the 
algorithm observes applicable regulatory standards (e.g., entry of only 
bona fide orders) and incorporates necessary related tasks (e.g., short 
order marking and performing locates). In addition, while in-house 
training of firm personnel is important, FINRA does not believe it is a 
suitable substitution for registration and qualification in the area of 
securities trading.\20\
---------------------------------------------------------------------------

    \20\ FIA PTG supports a FINRA registration requirement, but 
requests that a broader range of examinations be considered 
acceptable for purposes of the proposal, such as the Series 7. FINRA 
has considered whether another existing examination would be as (or 
more) appropriate than the Series 57, as well as whether a new 
examination should be created for this purpose, and continues to 
believe that, at this time, the Securities Trader registration 
category is best suited to educate associated persons that engage in 
the activities covered by the proposal.
---------------------------------------------------------------------------

III. Date of Effectiveness of the Proposed Rule Change and Timing for 
Commission Action

    Within 45 days of the date of publication of this notice in the 
Federal Register or within such longer period (i) as the Commission may 
designate up to 90 days of such date if it finds such longer period to 
be appropriate and publishes its reasons for so finding or (ii) as to 
which the self-regulatory organization consents, the Commission will:
    (A) by order approve or disapprove such proposed rule change, or
    (B) institute proceedings to determine whether the proposed rule 
change should be disapproved.

IV. Solicitation of Comments

    Interested persons are invited to submit written data, views, and 
arguments concerning the foregoing, including whether the proposed rule 
change is consistent with the Act. Comments may be submitted by any of 
the following methods:

Electronic Comments

     Use the Commission's Internet comment form (https://www.sec.gov/rules/sro.shtml); or
     Send an email to rule-comments@sec.gov. Please include 
File Number SR-FINRA-2016-007 on the subject line.

Paper Comments

     Send paper comments in triplicate to Secretary, Securities 
and Exchange Commission, 100 F Street NE., Washington, DC 20549-1090.

All submissions should refer to File Number SR-FINRA-2016-007. This 
file number should be included on the subject line if email is used. To 
help the Commission process and review your comments more efficiently, 
please use only one method. The Commission will post all comments on 
the Commission's Internet Web site (https://www.sec.gov/rules/sro.shtml). Copies of the submission, all subsequent amendments, all 
written statements with respect to the proposed rule change that are 
filed with the Commission, and all written communications relating to 
the proposed rule change between the Commission and any person, other 
than those that may be withheld from the public in accordance with the 
provisions of 5 U.S.C. 552, will be available for Web site viewing and 
printing in the Commission's Public Reference Room, 100 F Street NE., 
Washington, DC 20549, on official business days between the hours of 
10:00 a.m. and 3:00 p.m. Copies of such

[[Page 9242]]

filing also will be available for inspection and copying at the 
principal office of FINRA. All comments received will be posted without 
change; the Commission does not edit personal identifying information 
from submissions. You should submit only information that you wish to 
make available publicly. All submissions should refer to File Number 
SR-FINRA-2016-007 and should be submitted on or before March 16, 2016.

    For the Commission, by the Division of Trading and Markets, 
pursuant to delegated authority.\21\
---------------------------------------------------------------------------

    \21\ 17 CFR 200.30-3(a)(12).
---------------------------------------------------------------------------

Robert W. Errett,
Deputy Secretary.
[FR Doc. 2016-03794 Filed 2-23-16; 8:45 am]
BILLING CODE 8011-01-P

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