Market Integrity: The Missing Stepchild
Financial market regulators are taking a close look at research presented by Frederick Harris, Professor of Economics and Finance at Wake Forest University Schools of Business during the Financial Management Association Conference in New York City on Oct. 21.
Dr. Harris led a special panel discussion with some of the world’s most prominent financial researchers and economists, revealing how fairness and efficiency in the market can be effectively integrated. "Since regulators worldwide are charged with assuring integrity as well as eliciting efficiency, we are proposing evidence-based regulatory policy for financial markets–a framework for assessing market quality," said Harris.
The research is a compilation of several studies, sponsored by Wake Forest and the Capital Markets Cooperative Research Centre (CMCRC) in Sydney, Australia. CMCRC is the independent research arm of the leading surveillance effort that helps regulators assure fairness in the markets. It has trade and quote data access to more than 40 markets worldwide.
Michael Aitken, Chief Scientist of the CMCRC and Chairman of Capital Market Technologies at the University of New South Wales said, “I have gone around the world asking regulators, if this is your job, how do you justify that fairness and efficiency are being pursued? The answers were not near as clear as they needed to be. Essentially what we set out to do here was to try to come up with a framework that leads to some objective measures." Aitken explained that this research defines market integrity based upon the extent to which market participants engage in the prohibited activities of market manipulation, insider trading and broker-agency conflict.
"I have often used these terms without evidence to back them up," said Jim Overdahl, former Chief Economist of the U.S. Securities and Exchange Commission (SEC), advisor to the Futures Industry Association, Principal Trading Group, and Vice President of NERA Economic Consulting.
"Commissioners have a very tough job to do. They would welcome some framework that would allow them to get an objective view about what some potential changes will do to the market," said Overdahl. Al Berkeley, Chairman of Pipeline Trading and former President of NASDAQ agrees that such a framework is useful, “Without that framework, even people who are knowledgeable on trading desks don’t have a grasp on how to look at the various kinds of objectives [fairness and efficiency]."
Kumar Vekataraman, Professor at Southern Methodist University Schools of Business, commended Harris and Aitken for their research and said, "The framework is interesting because it identifies issues difficult to come up with pure empirical proxies to measure."
Frank Hatheway, Senior Vice President and Chief Economist of NASDAQ was one of the highly engaged observers of the panel discussion. "This will drive a change in regulatory process. Regulation right now is in a large part driven by assertion, whereas this puts a structure on it," said Hatheway. "The SEC in particular is having problems in courts at times because they have no evidence for the decisions they make other than a belief in the position that is most persuasively argued."
The CMCRC's market quality framework has grabbed the attention of regulators and lawmakers. Harris has been invited to discuss the research with members of the SEC and with the U.S. Senate and House Banking Committees.
Click Here to watch a video of the panel discussion.