The CME recently published a revised Market Regulation Advisory Notice (MRAN) dealing with Disruptive Practices Prohibited under Rule 575 (click here). For context, Rule 575 deals with different types of order entry and trading conduct that the CME considers abusive to the orderly conduct of trading or to the fair execution of transactions. The rule is frequently the subject of enforcement actions across all four venues at the CME.
Rule 575 requires that all orders are to be entered for the purpose of executing bona fide transactions, and that all non-actionable messages are to be entered in good faith and for legitimate purposes. Beside prohibiting widely recognised behaviours such as spoofing, it also prohibits the use of messages to overload or delay the exchange’s or other market participants’ systems, as well as intentionally or recklessly submitting messages that may disrupt the exchange’s systems. With the growth of algorithmic trading in recent years, there has been a rise in enforcement cases where firms have been penalised for such disruptions (click here and here for recent examples). The revised MRAN introduces a new Q&A codifying a ban on market participants engineering order-messaging systems to exploit network transmission mechanics for an unfair trading advantage. While the prohibition doesn’t explicitly limit such behaviour to automated or algorithmic trading, in practice enforcement is likely to relate to these activities;
The new Q&A 26 (see page 9 of the revised MRAN) makes it clear that Rule 575 doesn’t apply only to conventional order and message activity but also to the way network traffic is transmitted to exchange infrastructure. Market participants must ensure that network communications consist of complete, well-formed frames and packets that are intended to result in a bona fide application-layer message (such as an order, modification, cancellation or heartbeats) that complies with the CME’s technical specifications. The Q&A states that intentionally, systematically or recklessly transmitting specified categories of anomalous or non-conformant network traffic is prohibited outright. This includes incomplete frames, malformed Ethernet segments, truncated packets, and packets with deliberate checksum errors (these essentially describe various forms of corrupted or partially-sent network data), on the basis that such transmissions disrupt the orderly operation of the exchange's systems.
It also addresses network behaviour designed to achieve an unfair technical advantage. In particular, it states that market participants must not use non-conformant messaging to get priority on the network, avoid message limits or monitoring systems, or reduce latency to gain speed advantages. Market participants are also not allowed to manipulate or redirect network traffic on purpose (for example, sending data to invalid destinations or interfering with packets in transit to cancel or disrupt messages);
The new Q&A notes that violations of this nature may also result in breaches of several other rules including Rule 432.Q (Acts Detrimental to the Welfare of the Exchange) and Rule 432.W (Failure to Supervise). The revised MRAN also contains two new examples of prohibited activity (see the first two bullets on page 9).
The first example involves the deliberate changing of the destination of a network packet during order construction. If information received during transmission indicates that the participant no longer wants to trade, the system redirects the packet away from the order-entry system, potentially causing the exchange to process or route the packet unnecessarily. The CME considers this type of behaviour abusive where it is used to interfere with or disrupt normal network processing.
The second example involves the deliberately sending of incomplete or malformed network data to the exchange before an order is ready to be submitted. The system effectively pre-stages a part of the order on the network connection and completes the message only when a trading opportunity arises. This approach is intended to give the firm an artificial latency or queue-position advantage over other market participants using standard network protocols. Because it has no legitimate trading or technical purpose and is designed to obtain an unfair speed advantage, the CME considers it prohibited under Rule 575.
Compliance should ensure that relevant Front Office and technical development staff, particularly those involved in creating, testing and validating trading tools and algorithms that access CME systems, read and understand the updated MRAN. Firms should also review their existing controls and processes in light of the CME’s guidance, including controls covering order and message generation, network communications and the development, testing and validation of automated trading systems. Any gaps or areas of uncertainty identified through this review should be addressed, with appropriate changes made to controls, procedures and, where necessary, system design or testing processes.
