Regulatory Roundup: Highlights from Nasdaq’s Surveillance Conference

Commentary & Analysis

Two weeks ago, the Nasdaq Surveillance business hosted its biannual Surveillance conference in Tokyo, Japan. The event saw a remarkable turnout of 122 attendees, representing 48 companies across 25 different countries. This global audience included market participants, regulators, and exchanges, all united to share insights, exchange ideas, and discuss best practices for effective market surveillance. This year was unique in that it was the first in-person Nasdaq Surveillance conference since pre-Covid days and marked the 30th anniversary of SMARTS technology.

The event’s hot topic was the role of emerging technology, particularly AI, in surveillance. This year alone has seen an explosion of AI applications influencing every sector, with global securities regulators like the U.S. Securities and Exchange Commission (SEC) and the U.K.’s Financial Conduct Authority (FCA) weighing in with their views and guidance. While AI was certainly top of mind, the impact of social media and its power to influence markets, as well as the ongoing and evolving regulatory landscape of digital assets and cryptocurrencies, were not far behind. However, the case studies presented by surveillance leaders have always been the crowd favorite. This year, we had a full lineup of interesting presentations, with the FBI presenting the Martin Shkreli case, two interesting AI examples from SGX and CMA Saudi Arabia, and some detailed walkthroughs of cross-market manipulation, marking-the-close, and price manipulation by the Dutch Authority for Financial Markets (AFM), the Canadian Investment Regulatory Organization (CIRO), Nasdaq and B3.

On the first day, I had the honor of hosting a fireside chat with Commissioner Caroline Pham of the U.S. Commodity Futures Trading Commission (CFTC). We discussed a range of topics, and Commissioner Pham introduced her proposal for a CFTC Digital Asset Pilot Program, which takes a proactive approach to creating a safe framework for crypto and digital assets. With the recent enforcement announcements against three DeFi firms, the CFTC has taken active steps in decentralized finance. It was interesting to hear the Commissioner’s practical approach to the regulation of fast-evolving technology more generally, and we covered topics from RegTech to AI. Commissioner Pham also discussed the importance of carbon markets, why it was a CFTC focus area, and the reasoning behind the formation of an enforcement task force for environmental products. 

Dovetailing with many of the points Commissioner Pham raised, a panel session I later moderated, Surveillance in a New World, offered valuable insights direct from an array of practitioners in the field. The increase in retail activity has created a shift in how investors interact with markets, with the growing use of app-based trading as well as the importance of social media. This brings its own new challenges; for example, one panelist shared how a lot of activity has left spaces like X (Twitter) and Reddit to appear in places like Discord or TikTok and that the increased use of voice and video adds its own technical challenges. With the unique representatives on the panel, we had a fascinating talk through the meme stock rally of 2021. Is this something we will see again, or will it start happening in more countries?

On the second day, we hit the ground running and jumped right to the question on many participants’ minds with the session, Regulatory Priorities: What are some key priorities for regulators moving forward? Unsurprisingly, the theme of emerging technologies came up, with the importance of ensuring ethical principles of AI being an interesting debate. It was quickly acknowledged that technology change is not new, with High-Frequency Trading (HFT) and Algorithmic Trading being hot topics of the past in the U.S. and EU. It is not quite the same in Japan, where there has been a recent surge in the volume of HFT activity. This was a great opportunity for our EU and Canadian colleagues to contrast the evolution of their programs with the recent experience of a Japanese regulator. It also highlights the evolving need for continued review of this space with a Dutch regulator talking through a study the AFM had recently started to better understand HFT activity in the Netherlands. 

I later moderated a fireside chat, AI in Practice, with my Nasdaq colleagues and talked through two initiatives that we recently started. The first was anomaly detection, where we are using unsupervised learning to determine outliers and clusters of participants within a behavior being investigated. For example, a single pump and dump scheme could be committed through multiple accounts. To conclude, we talked through a new Generative AI project, where we were aiming to use Generative AI tools to gather, summarize, and contextualize supporting evidence relating to a security being investigated. 

It was both my pleasure and honor to speak with everyone who attended, and it was very fulfilling to meet such a large group of people focused on safeguarding our markets!

Regulatory Updates

21 September: The China Securities Regulatory Commission (CSRC) investigated hedge funds and brokerages on quantitative trading strategies following a public outcry against the sector’s ability to profit in the country’s volatile economy. Under the CSRC’s guidance, the Shanghai and Shenzhen stock exchanges are also seeking information from major quantitative funds on their strategies.

20 September: The SEC adopted a new rule to crack down on “greenwashing” and other deceptive marketing strategies practiced by U.S. investment funds. The “Name Rule” requires 80% of a fund’s portfolio to match the asset advertised by its name, aiming at a boom in funds that tried to exploit investor interests in environmental, social, and governance (ESG) factors.

19 September: The Monetary Authority of Singapore (MAS) issued its 4th Enforcement Report, covering enforcement actions taken against financial institutions and individuals for market abuse, financial services misconduct, and money laundering-related offenses. Some interesting statistics include: (1) $7.10 million in composition penalties for anti-ML related breaches and $12.96 million in civil penalties for market abuse cases. (2) 39 criminal convictions of individuals involved in market misconduct and related offences: a result of joint investigations with the Singapore Police Force’s Commercial Affairs Department (CAD). (3) High-profile actions relating to Wirecard and Three Arrows Capital.

18 September: The New York State Department of Financial Services published a framework describing proposed expectations for how crypto firms evaluate a coin offering before adoption. The framework is meant to guide firms on drafting coin listing and delisting policies and asks firms to draft their coin-listing policy in three areas: governance for the coin-listing process, risk assessment of coins and procedures to monitor coins.

13 September: The Ontario Securities Commission (OSC) published its summary report on key activities undertaken by the Investment Funds and Structured Products (IFSP) branch.

11 September: Hong Kong’s Securities and Futures Commission (SFC) approved the launch of the city’s first real estate security token offering (STO). Tykhe Capital Group will launch “Prince Token,” which will only be made available to professional investors. Subject to regulatory approval, the token will list on HKbitEX.

7 September: The Canadian Securities Administrators (CSA) published its consolidated Year in Review. Some interesting statistics: (1) Issued 758 investor alerts, cautions, and warnings to help protect the public, 422 of which are related to crypto; (2) Banned 81 individuals and 23 companies from participating in the capital markets; (3) 16 crypto-related matters where CSA members took enforcement action to protect the integrity of the capital markets. 

7 September: The Financial Stability Board (FSB) and International Monetary Fund (IMF) published a joint report outlining a comprehensive policy and regulatory response to crypto-asset activities. The report illustrates the macroeconomic and financial stability implications of crypto-asset activities, how they may interact, and how the IMF and FSB’s policy recommendations fit together. The report also encourages the implementation of the Financial Action Task Force (FATF) anti-money laundering and counter-terrorist financing (AML/CFT) standards to address risks to financial integrity and mitigate criminal and terrorist misuse of the crypto-assets sector.

7 September: The International Organization of Securities Commissions (IOSCO) issued for consultation nine policy recommendations to address market integrity and investor protection concerns arising from Decentralized Finance (DeFi). The Recommendations cover six key areas: (1) Understanding DeFi Arrangements and Structures; (2) Achieving Common Standards of Regulatory Outcomes; (3) Identification and Management of Key Risks; (4) Clear, Accurate and Comprehensive Disclosures; (5) Enforcement of Applicable Laws; (6) Cross-Border Cooperation.

6 September: The Belgium Financial Services and Markets Authority (FSMA) issued a warning regarding fraudulent trading platforms. These trading platforms try to arouse consumers’ curiosity by placing scam ads on social media or online video platforms. In these fake ads, a (well-known) person often explains how to get rich quickly. Such trading platforms also sometimes use mobile applications to lure victims.  

5 September: The Australian Senate Committee on Economics Legislation rejected the Digital Assets (Market Regulation) Bill and is encouraging the government to continue researching digital asset market regulation rather than passing the bill. The committee critiqued the bill, citing that it conflicts with the government’s current industry-accepted approach and is “not congruent with international regimes.”

4 September: The Federation of European Securities Exchanges (FESE) published a position paper on Decentralized Finance (DeFi). The paper provides several policy considerations that FESE believes are crucial in regulating DeFi and creating an efficient international policy framework, including the “same business, same risks, same rules” principle when comparing DeFi services and traditional financial services and the collaboration of CeFi institutions in supervising DeFi.

3 September: The National Financial Regulatory Administration (NFRA), People’s Bank of China (PBOC), CSRC, Cyberspace Administration of China (CAC), and State Administration of Foreign Exchange (SAFE) published new rules aimed at regulating the provision of data services by money brokers and encouraging the reasonable use of data to enhance market information transparency. The rules require money brokers to strengthen their review process for qualifications of trading institutions that provide quotation data and to avoid data that deviates from the market conditions.

29 August: The Autorité des marchés financiers (AMF) conducted a study on the activity of brokers in the French bond market over the period from April 1, 2021, to March 31, 2022. When trading in the markets, investors incur trading costs that affect the return on their investment, such as platforms’ or brokers’ trading fees. On the bond market, these costs are less identifiable than on the equity market. The AMF hopes that the figures presented in this study will enable all counterparties to better anticipate and analyze the costs involved when trading bonds through a broker.

Fines & Enforcement Actions

The Hong Kong police investigated allegations of fraud against cryptocurrency trading platform JPEX. Eleven people, including popular influencers, were arrested after more than 2,000 investors complained of HK$1.3bn in losses. The SFC revealed that the Dubai-based crypto-exchange had been operating without a license for virtual asset trading.

The SEC announced its first enforcement actions against a Los Angeles-based media and entertainment company, Impact Theory, an issuer of nonfungible tokens (NFTs). The NFTs were sold as investment contracts, and the SEC found that the company should have registered the NFTs with the agency and provided buyers with financial and risk disclosures. Impact Theory agreed to pay a $6.1 million settlement. 

The SEC announced settled fraud charges against GlennCap LLC, a Connecticut-based investment advisory firm, and its owner for allocating profitable securities trades to favored accounts while allocating a disproportionate amount of unprofitable trades to disfavored clients – a practice known as cherry-picking. The probability that the favored accounts received the more profitable trades by chance was statistically nearly zero. The firm and its owner are required to pay more than $3 million in civil penalties, disgorgement, and prejudgment interest.

The CFTC ordered Goldman Sachs to pay a penalty of $5.5 million for recordkeeping violations and the violation of a previous commission order. Following the issuance of a 2019 order that found Goldman failed to record the phone lines of a trading and sales desk, Goldman continuously failed to fully record and retain thousands of mobile device calls until a permanent fix in the form of a software update in June 2022.

The SEC fined Deutsche Bank’s fund unit, DWS Investment Management, $25 million for overstating its environmental, social, and governance (ESG) factors and failing to comply with anti-money laundering rules for its mutual funds. In the AML enforcement action, the SEC finds that DWS caused mutual funds it advised to fail to develop and implement a reasonably designed AML program to comply with regulations. In the ESG action, the SEC finds that DWS made misleading statements about its ESG incorporating factors, marketing itself as a leader in ESG while failing to implement global ESG integration policies.

The CFTC filed and settled charges against Opyn, Inc., ZeroEx, Inc., and Deridex, Inc. Deridex and Opyn are charged with failing to register as a swap execution facility (SEF) or designated contract market (DCM), failing to register as a futures commission merchant (FCM), and failing to adopt a customer identification program as part of a Bank Secrecy Act compliance program, as required of FCMs. ZeroEx, Opyn, and Deridex are also charged with illegally offering leveraged and margined retail commodity transactions in digital assets.

The SEC charged Stoner Cats 2 LLC (SC2) with conducting an unregistered offering of crypto asset securities in the form of purported NFTs that raised approximately $8 million from investors to finance an animated web series. SC2 offered and sold more than 10,000 NFTs for approximately $800 each, violating the Securities Act of 1933 by selling these crypto-asset securities to the public in an unregistered offering that was not exempt from registration.

The Australian Securities and Investments Commission (ASIC) commenced civil penalty proceedings in the Federal Court against Bit Trade Pty Ltd, a provider of the Kraken crypto exchange to Australian customers. Bit Trade failed to comply with the design and distribution obligations for the margin trading product and failed to make a target determination for the product before offering it to customers.

The Commodity Futures Trading Commission (CFTC) filed a civil complaint in the U.S. District Court for the Northern District of Illinois against Logista Advisors LLC and Andrew Serotta, charging them with spoofing, engaging in a manipulative and deceptive scheme, failing to supervise, and for violating a prior CFTC order. According to the complaint, Serotta would place hundreds of large orders for crude oil and natural gas futures–specifically, calendar spreads–he intended to cancel before execution (spoof orders), while placing orders on the opposite side of the same futures markets (genuine orders) that would benefit from market participants’ reactions to his spoof orders.

The Securities and Exchange Commission (SEC) charged a California resident with raising approximately $11.8 million from more than 1,000 investors through a fraudulent securities offering targeting members of the Tongan American community across the United States.

The SEC charged Archipelago Trading Services Inc. (ATSI) for failing to file hundreds of legally required reports of suspicious financial transactions – also known as Suspicious Activity Reports – between 2012 and 2020. The charges were related to transactions in over-the-counter (OTC) securities executed on ATSI’s alternative trading system (ATS). ATSI has agreed to pay a $1.5 million settlement.

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