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US regulators are bringing high-speed traders and some hedge funds under direct supervision in the $26tn Treasury bond market, enacting a rule meant to bolster its stability following a series of crises.
The Securities and Exchange Commission in Washington voted three-to-two in favour of the rule on Tuesday, which will force high-speed traders and some hedge funds in the market to register with the agency as dealers.
Such firms have become central players in a market once dominated by banks, as regulations brought in after the global financial crisis made it costlier for mainstream lenders to trade Treasuries.
The rules require firms designated as dealers to be more transparent about their positions and trading activity and force them to hold capital to back their deals.
As high-frequency and hedge fund traders were not regulated in a way that reflects their importance, “investors and the markets lack important protections”, the SEC said.
The standards are part of a push to increase regulatory oversight of the world’s biggest and most important bond market.
Authorities have fretted over the Treasury market’s stability since a crash in March 2020 forced the Federal Reserve to step in and support the market. In the past year, regulators have also turned their attention to the disruptive potential of highly leveraged hedge fund trades.
The rule will require market participants that take on “significant liquidity-providing roles” — meaning those firms that facilitate buying and selling in the secondary market by regularly quoting prices — to register with the SEC and become members of self-regulatory organisations.
The SEC’s final proposal has rowed back from an earlier more expansive definition of a dealer following vehement opposition from hedge funds, which argued that they are investors rather than market intermediaries.
Citadel founder Ken Griffin told the Financial Times last year that the SEC should focus its efforts on the big banks that facilitated trading in the Treasury market rather than increasing costs for the industry.
In the initial proposal, any firm trading more than $25bn of Treasuries a month, for four of the past six calendar months, would have been forced to register, a provision that would have swept up a wide segment of the hedge fund market. That quantitative test was dropped entirely, and fewer funds will have to register under the new qualitative requirements.
However, the SEC made clear that it would retain the ability to designate firms as dealers on a case-by-case basis.
Bryan Corbett, chief executive of the Managed Funds Association, an industry group representing hedge funds, called the final rule a “significant improvement” from the SEC’s earlier proposal.
However, he added that “alternative asset managers are not dealers, and MFA is concerned that the rule may not go far enough in excluding them and private funds from being regulated as dealers”.
The vote builds on efforts by SEC chair Gary Gensler to reform the multitrillion market underpinning the US financial system.
In December the regulator voted to adopt a landmark rule that could require more Treasury bond trades to be cleared centrally, in a bid to reduce risk in the sector. A central clearing house stands between a buyer and seller and prevents failed trades from cascading through the market.
