CME Group Exchanges are adopting new Rule 575 to codify particular types of disruptive order entry and trading practices that are prohibited as abusive to the orderly conduct of trading or the fair execution of transactions, effective September 15, 2014.
CME’s Market Regulation Advisory Notice RA1405-5 (Advisory Notice) states that the practices prohibited by new Rule 575 historically have been prohibited and prosecuted under other Exchange rules, such as engaging in dishonorable conduct or conduct inconsistent with just and equitable principles of trade. But the CME’s renewed emphasis on disruptive trading practices – taken together with a similarly renewed emphasis by the Commodity Futures Trading Commission (CFTC) and the prohibitions on certain disruptive practices enacted as part of the Dodd-Frank Act – demand heightened vigilance by market participants to assure that their trading behavior does not run afoul of the law or Exchange rules.
Text of new Rule 575
New Rule 575 (adopted by the CME, CBOT, NYMEX and COMEX) provides that no person shall enter or cause to be entered:
- An order with the intent, at the time of order entry, to cancel the order before execution or to modify the order to avoid execution;
- An actionable or non-actionable message with intent to mislead other market participants;
- An actionable or non-actionable message with intent to overload, delay, or disrupt the systems of the Exchange or other market participants; or
- An actionable or non-actionable message with intent to disrupt, or with reckless disregard for the adverse impact on, the orderly conduct of trading or the fair execution of transactions.
The Rule further provides that all orders must be entered for the purpose of executing bona fide transactions. The Rule applies both to open outcry and electronic trading, and to all market states including the pre-opening and closing periods and all trading sessions.
The Advisory Notice states that Rule 575 prohibits, among other things:
- Spoofing, including submitting or cancelling multiple bids or offers to create a misleading appearance of market depth, or with intent to create artificial price movements upwards or downwards;
- Quote stuffing practices, including submitting or cancelling bids or offers to overload the quotation system of the Exchange or to delay another person’s execution of trades; and
- Disorderly execution of transactions during the closing period.
The Advisory Notice observes that some of these prohibitions mirror those in the Dodd-Frank Act as well as the CFTC’s Interpretive Guidance and Policy Statement on its anti-disruptive practices authority respecting those statutory prohibitions.
In addition, CME’s Advisory Notice includes a non-exhaustive list of examples of specific types of conduct that may be found to violate Rule 575.
The Advisory Notice includes 22 FAQs to provide guidance on how the CME will enforce Rule 575. For example, the FAQs state that: 1) CME Market Regulation may consider a variety of factors in assessing whether particular conduct violates the Rule; 2) the amount of time an order is exposed to the market is just one factor in determining whether an order constitutes a disruptive practice; and 3) Rule 575 requires intentional misconduct or recklessness (which may be proved without an admission of state of mind, and claims of ignorance or lack of knowledge are not acceptable defenses).
The FAQs also address whether Rule 575 would apply in the context of, among other things:
- Partial fills;
- Making a two-sided market with unequal quantities;
- Stop orders entered to protect a position;
- Iceberg orders;
- Entering order(s) to gain queue position;
- Orders entered subject to a pro-rata matching algorithm;
- A momentum ignition strategy;
- Flipping orders;
- Pre-open activity; and
- Orders entered into Globex for testing purposes.