NYSE Euronext Comment Letter - Nov. 26, 2007

Comment in response to

TREAS-DO-2007-0018,

Review by the Treasury Department of the

Regulatory Structure Associated with Financial Institutions 

November 21, 2007

NYSE Euronext greatly appreciates the opportunity to assist the Treasury Department in evaluating the regulatory structure associated with financial institutions in the U.S.   The U.S. capital markets are the most liquid and innovative in the world.  In order to ensure that the U.S. capital markets maintain their leading global position it is appropriate to ask whether the existing regulatory system will continue to effectively regulate markets which are increasingly characterized by globalization, product convergence, and large and multi-functional institutional participants whose businesses encompass all asset classes and most on and off-exchange financial instruments.  We commend the Treasury Department for posing such questions and an examination of these issues is essential to ensuring that the U.S. capital markets maintain the leading global position that they have historically enjoyed.  We believe that the global reach of NYSE Euronext’s business, together with our familiarity with both U.S. and non-U.S. regulatory structures, gives us a perspective on the relative effectiveness of a variety of regulatory approaches that impact the capital markets.

Description of NYSE Euronext

NYSE Euronext became the parent company of NYSE Group and Euronext and each of their respective subsidiaries on April 4, 2007 , upon the consummation of their business combination.  NYSE Group operates and regulates two securities exchanges:  the New York Stock Exchange LLC (“NYSE”) and NYSE Arca, Inc.  NYSE Group is a leading provider of securities listing, trading and related information products and services.  NYSE Group was formed in connection with the merger of the NYSE and Archipelago, which was completed on March 7, 2006.

The NYSE is the world’s largest and most liquid cash equities exchange.  The NYSE provides a reliable, orderly, liquid and efficient marketplace where investors meet directly to buy and sell listed companies' common stock and other securities.  For 215 years, the NYSE has facilitated capital formation, serving a wide spectrum of participants, including individual and institutional investors, the trading community and listed companies.  As of December 31, 2006, 2,713 issuers, which include operating companies, closed-end funds and exchange traded funds (“ETFs”), were listed on the NYSE, and the NYSE's listed operating companies represented a total worldwide market capitalization of over $25.1 trillion.  During 2006, on an average trading day, approximately 1.67 billion shares, valued at over $63.0 billion, were traded on the NYSE.  The NYSE operates a hybrid market in which orders are electronically transmitted for execution.  Specialists on the trading floor are charged with maintaining fair, orderly and continuous trading markets in specific stocks.  Floor brokers act as agents on the trading floor to facilitate primarily large or complicated orders.

NYSE Arca operates the first open, all-electronic stock exchange in the United States and has one of the leading market positions in the trading of exchange-listed securities and ETFs.  NYSE Arca is also an exchange for trading equity options.  Through NYSE Arca, customers can trade approximately 8,875 equity securities and over 152,000 option contracts.  NYSE Arca's trading platforms link traders to multiple U.S. market centers and provide customers with fast electronic execution and open, direct and anonymous market access.  The technological capabilities of NYSE Arca's trading systems, combined with its trading rules, have allowed NYSE Area to create a large pool of liquidity that is available to its customers.  During 2006, on an average trading day, over 822 million shares, valued at over $28.6 billion, were traded through NYSE Arca's trading platforms.

Euronext was the first genuinely cross-border exchange organization.  Following the merger of the Paris , Amsterdam and Brussels exchanges in 2000, Euronext acquired the London-based derivatives market, the London International Financial Futures and Options Exchange, and merged with the Portuguese exchange, BVLP, in 2002.  As a result, Euronext now operates regulated cash and derivatives markets in Belgium , France , the UK (derivatives only), the Netherlands and Portugal .  NYSE Euronext now refers to all of its European derivatives markets as Liffe.

Euronext has integrated its constituent markets based on a horizontal market model designed to generate synergies by incorporating the individual strengths and assets of each local market.  This business model covers technological integration, the reorganization of activities into cross-border, streamlined strategic business units and the harmonization of market rules and the regulatory framework.  Since its creation, Euronext has fostered the consolidation of European financial markets by integrating local exchanges across Europe in order to provide users with a single market that is broad, highly liquid and cost-effective.

Liffe is one of the largest futures and options exchanges in the world.   Liffe operates a globally-distributed central order book for its products through the LIFFE CONNECT^® electronic trading platform and, since October of 2005, Bclear, which is a service that allows transactions that are executed off-exchange to be brought to Liffe for trade confirmation administration and clearing subject to the rules of the exchange.

During the first 10 months of 2007 Liffe volume totaled 799 million contracts, up 29% from a comparable period in 2006.  Aggregate open interest across all products as of the end of October was 83.8 million contracts.

Discussion

NYSE Euronext is subject to regulation by the United States Securities and Exchange Commission (“SEC”) in relation to the securities and options exchanges it operates in the U.S., while the European equity and derivatives exchanges within our company fall under the regulatory auspices of the Commodity Futures Trading Commission (“CFTC”) and, in other instances, the SEC, in relation to the activities they are permitted to undertake in the US.

Liffe makes its major commodity and financial futures and options products as well as most of its stock index futures available in the U.S.  on LIFFE CONNECT^® through no-action relief granted by the CFTC[1].  In addition the SEC granted two of the markets within Liffe no-action relief such that certain exchange members can familiarize certain registered broker-dealers and large financial institutions in the U.S. with certain equity and index option contracts made available by those markets[2].  Finally the Group also has a now-dormant securities futures exchange in the US – NQLX – which is jointly regulated by the SEC and CFTC.

As a result, the views we express herein will be primarily focused on regulation of the securities and futures industry and in particular the possibility of consolidating the SEC and the CFTC.  We agree with the view expressed by Treasury in its notice and request for comments, that the regulatory structure for financial institutions in the United States has served this country well over the course of our history.  Indeed, it has helped to incubate capital markets and financial institutions that have an outstanding record of success.

Notwithstanding this there have been occasions where the inflexibility and the prescriptive nature of certain aspects of US regulatory requirements have pushed business overseas.  As the U.S. Treasury also notes, much of the basic U.S. regulatory structure associated with financial institutions was established decades ago.  And while there certainly have been changes over that time in the way financial institutions and markets are regulated, the challenge is to adapt our structures to the extent appropriate to maintain and enhance the vitality and world-leading position of U.S. markets.

Especially in capital and trading/risk mitigation markets, the products and participants have converged.  While the futures industry in the United States was initially focused on agricultural products and other commodities, it has, since the late 1970’s, become increasingly focused on interest rate and stock index futures and options.  For example through the first 10 months of 2007 these products comprised 77% of U.S. futures and options volume and, if anything, financial and equity derivatives represented a larger percentage of the overseas markets.

Irrespective of their strengths, we firmly believe that the disparate regulatory regimes that exist in the U.S. today for futures and securities would not be the regulatory structure of choice if we were starting now with a clean slate.  We almost certainly would have adopted the more unified approach in use today in other countries whose equity and futures markets generally developed later than the comparable markets in the U.S.

Unsurprisingly there have been calls by some in recent years to radically change our approach, indeed to combine the SEC and CFTC and unify futures and securities regulation.  There also have been suggestions to bring all regulatory agencies focusing on financial markets under a single authority.  These suggestions typically point to the approaches taken in the United Kingdom and in Japan .  The U.K. , beginning in 1997, combined nine different financial regulatory bodies, including self-regulatory organizations (“SROs”), into the Financial Services Authority (“FSA”).  In 1996, Japan also consolidated and modified its financial services regulatory structure so that a single regulator, the Financial Services Agency, is responsible for supervising the entire financial services industry in Japan [3].  Some countries have elected to use one agency to regulate both securities and futures trading as is done for example, in China , through the China Securities Regulatory Commission, and the Securities and Futures Commission in Hong Kong .

Many of the reasons that have historically been cited as justification for the disparate regulatory treatment for securities and futures in the United States have eroded, as securities products have become more complex and include many leveraged structures, while futures industry volume is increasingly driven by financial and stock index futures products.  In addition, futures on single stocks and narrow-based indices are essentially forward instruments that share virtually the same pricing characteristics as equities.

Many broker-dealers with a significant public customer business have an affiliate that is a futures commission merchant (FCM).  Broker-dealers and FCMs are subject to similar capital requirements, and their recordkeeping requirements and the requirements for registered representatives and associated persons are also similar.  There are of course some differences, for example, SIPC protection for securities accounts, something for which there is no futures account analog.  There is also a widely-held presumption that securities and equity options products have much greater retail involvement than comparatively leveraged products such as futures.  As noted above, however, a variety of leveraged structures are now available to investors in securities, and the retail segment has contributed to the volume growth in certain futures products, especially e-mini stock index futures.

Among non-retail customers, the most active customers of securities and futures have converged.  Equity trading institutions and those mutual funds and pension funds whose charters permit, engage in synthetic asset allocation and hedging strategies with stock index futures.  The prominent algorithmic firms that opportunistically provide liquidity in equities are in many cases equally active liquidity providers in futures.  Many hedge funds have become dominant players in futures, equities and equity options.  Institutional arbitrageurs actively transact stock and bond repos, which are strategies comprised of products individually regulated by the SEC and the CFTC.  In fact, it is this very recognition of a converging customer base that underlies the revenue synergies that we anticipate from the combination of NYSE and Euronext.

Notwithstanding these points, however, we do not believe it is practical to attempt to combine or unify securities and futures regulation in the United States at this time.  The very success of each of these industries under their different regulatory regimens means that the process of reconciling disparate regulations has become exponentially more difficult, suggesting that unification would be too complex and take too long.  It is simply impractical to expect to be able to completely reorganize our existing regulatory system within an acceptable timeframe.

A better approach that would allow our markets to adapt more quickly to the rapidly changing environment is to articulate a set of principles or goals to be followed by the SEC and CFTC in the adoption of new rules and in the reconsideration of existing rules.  In respect of this process we believe that The President's Working Group is conceivably the forum to foster more systematic supervisory consistency by the Commissions.

The GAO Report on Financial Regulation dated October 2007 notes that the President’s Working Group “has served as an informal mechanism for coordination and cooperation rather than as a mechanism to ensure accountability for issues that span agency jurisdiction.”  (p. 35).  The President’s Working Group could be empowered, however, with overseeing this process and insuring that each agency follows the principles, and interprets or applies them in consistent ways.  If possible, articulation of these principles or goals in legislation would be the most effective course.

This approach may be extended to other U.S. financial regulators although, as previously noted, the nexus of our remarks concerns the regulation of securities, equity options, and futures products.  As such the President's Working Group, as a central coordinator, should focus on whether integrated firms are able to pursue integrated solutions, and insure that they do not face unwarranted difficulty in reconciling the approaches of the various existing statutes and agencies.  Indeed, financial market participants are from time-to-time regulated – or not regulated – to different extents, and coordination to ensure fair treatment among different participants would be a valuable service as well.

This is not to suggest that we should have a one-size-fits-all regulatory approach, even between securities and futures.  But a central coordinator can insure that good ideas and productive approaches to issues are cross-pollinated among all financial industry regulators.

Greater coordination among agencies and explicitly shared principles and goals may permit a consolidation of certain financial regulatory agencies in the future, depending on circumstances.  In the near term, however, given the practical and political challenges that any such combination would present, it is more important to focus on consistent financial regulatory principles and a more flexible approach to facilitate our ability to compete on a global level and enable us to adapt and change more quickly in response to evolving circumstances.

Another issue specified by Treasury on which we would like to focus is whether U.S. capital market competitiveness would be better served by pursuing greater global regulatory convergence.  Our answer to this question is unequivocally “yes”.  We also believe that both the SEC and the CFTC are demonstrating that they generally agree with this proposition.

For example, for some 10 years, the CFTC has issued no-action letters for screen access by U.S. persons to foreign boards of trade based, in part, on a finding that the foreign board of trade is regulated on a comparable basis by a regulator that, as part of this process, has entered into a cooperation agreement with the CFTC.  The CFTC no-action process for screen access to foreign boards of trade has been very beneficial to U.S. participants from a public policy perspective, fostering a healthy cross-border competition that has improved products and services for all.  It has also been of real commercial benefit to the foreign boards, like Liffe, that have been able to establish a strong and increasingly expansive footprint in the U.S. futures industry.

More importantly this footprint has also injected an important and much needed element of competition into the U.S. futures industry.  The global futures markets are almost exclusively electronic and liquidity capital, as we noted above, is supplied increasingly by proprietary traders and algorithmic trading firms.  These firms have the capability to transact on multiple futures markets and can gain access to foreign boards of trade as easily and with the same degree of immediacy that they enjoy to domestic futures exchanges.  But liquidity capital is by definition finite and electronic liquidity providers make determinations as to which markets to use on the basis of fees, the responsiveness, range of access solutions, and functionality of the exchange’s electronic trading system, and other services provided by the exchange.  As such all major electronic global futures exchanges compete for liquidity capital and, in this regard, Liffe’s U.S. presence has incrementally increased, to the benefit of all users,  the competitive dynamic in the U.S. futures industry.

The SEC’s declared intention to pursue the concept of mutual recognition based on substituted compliance is positive evidence that the Commission also has perceived the need to reach out across borders to ensure the competitive health of the U.S. capital markets.  By embarking upon this important process the SEC is evidencing that it recognizes the immense change to the global exchange landscape that has occurred and is continuing to occur as other trading venues in the U.S. and abroad offer competitive trading alternatives.  As NYSE Euronext stated in a letter to the SEC, we believe strongly that moving forward quickly and decisively presents the SEC with the best opportunity to play a significant leadership role in the global implementation of various cooperative regulatory frameworks based upon mutual recognition[4].

Given the size and importance of the U.S. markets, there will of course in all events be an important role for the SEC in determining the path of development of mutual recognition.  However, markets are becoming increasingly global and by taking the initiative now the SEC can maximize its impact and act most decisively to benefit U.S. investors and markets.  We are pleased to be able to note that the SEC is not alone among regulators in cross-border regulatory initiatives.  The regulatory authorities in the Netherlands , France , Belgium and Portugal have recently announced a willingness to “fast track” the technical listing of non-European Union companies on Euronext markets where the company has filed “U.S. documents” with the SEC within the last twelve months.  To the extent this presages a move towards greater commonality among national disclosure rules, we believe that this initiative will be welcomed as well by market participants who will more easily be able to compare investments across the globe.

We have also expressed our view that a successful approach to mutual recognition by the SEC will require a framework for evaluation that is both effective and, of equal importance, capable of rapid implementation.  The SEC’s own comments on mutual recognition demonstrate that the agency appreciates that one of the requirements for a rapid implementation is the use of a top-down, risk-based methodology for evaluating other markets and regulatory structures, that focuses on evaluation of regulatory principles and objectives rather than a bottom-up detailed evaluation of rules.

Interestingly, a useful facilitator of mutual recognition or regulatory convergence among national capital markets regulators is likely to be the International Organization of Securities Commissions (IOSCO).  While it is without actual authority over its national regulator members, IOSCO has enunciated basic principles that should form the basis for financial market regulation globally.  Despite the fact that it is inherently a consensus-seeking organization, IOSCO is currently contemplating whether implementation of IOSCO principles should be a condition for membership.  As such the time is right for the SEC to take a leading role in the global adoption of mutual recognition.

There is precedent for the SEC acting decisively to contribute to the adoption of broad principles by international regulators.  For example, IOSCO has been a positive force in the global effort to achieve International Financial Reporting Standards (IFRS) and the SEC just recently made a decision that is an important step towards achieving the objective of a single, high quality language for financial reporting accepted throughout the world.  Specifically, the SEC now permits non-U.S. companies registered under the Exchange Act in the U.S. to utilize IFRS as issued by the International Accounting Standards Board as the basis for financial statements that are filed in the U.S.   These statements no longer have to be reconciled to U.S. GAAP.

This example demonstrates the positive impact that can be obtained from a coordinating body that facilitates cooperation and regulatory convergence by articulating shared principles and providing an opportunity for regulators to learn to trust and cooperate with one another.   As previously noted we believe that a President’s Working Group, particularly one with a legislative mandate, can be an even more effective facilitator of cooperation and convergence among the several agencies regulating financial markets in the United States  .

There appears to be increasing consensus in both the public and private sectors that global harmonization among regulators requires a focus on risk-based principles and shared goals, rather than a panoply of prescriptive rules, to maintain market integrity and protect customers while at the same time providing the flexibility that regulated exchanges and market participants need to compete in a dynamic global environment[5].  This same focus can help the U.S. harmonize the efforts of its own multiple financial regulators, to the benefit of both the regulated industry participants and the public.

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NYSE Euronext very much appreciates the opportunity to assist the Treasury Department in evaluating the regulatory structure associated with financial institutions in the United States .  We would be pleased to answer any questions or provide further information regarding our views to Treasury Department staff.  In that regard, please feel free to contact Rachel F. Robbins, Executive Vice President and General Counsel, NYSE Euronext, at 212.656.2222 or rrobbins @nyse.com.