Robert Feinberg: Who Is Liable for Trading Mishaps?

Wednesday, 03 Oct 2012 04:06 PM

By Robert Feinberg

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A remarkable development occurred yesterday during the afternoon session of the SEC’s roundtable on Technology and Trading, and this was beyond the simple fact of the SEC engaging in any activity at all while the commission itself is mired in discord pending the retirement of its chairman and the appointment and confirmation of a new one sometime next year.

Andrei Kirilenko, chief economist of the Commodity Futures Trading Commission (CFTC), had been introduced to the participants and authorized to participate. I had met him a couple years ago and found him to be much more candid than most regulators, even with someone he was
meeting for the first time.

I expressed my frustration with the practice at the CFTC of holding roundtables that are broadcast by telephone and not available on the web. I asked whether there were actual cost issues involved or whether this was just the CFTC’s way of demonstrated that it is unhappy with the treatment it is receiving on Capitol Hill as it seeks funding commensurate with its expanded duties as a derivatives regulator under the Dodd-Frank Act.

Without hesitation, he replied that it was the latter. That was very refreshing.

So after sitting mute through the entire first session and much of the second, Kirilenko finally raised the question, as these trading glitches occur, who is going to be liable? He asked, “How do we assign liability? To the programmer, to the firm, should it be clearly delineated, and what is the outcome? Companies have been brought down by a few lines of code.”

One participant dismissed the issue as “a business and legal question,” but he acknowledged, “There are a number of things that can go wrong.” The moderator then dismissed the question as legal in nature. Finally, Chairman Schapiro said she wanted to get back to talking about kill switches. It’s fair to say that Dr. Kirilenko’s innocent question caused a bit of consternation.

From the standpoint of a recovering lawyer, this extremely thorny question can be resolved in a number of ways: through the courts, through legislation that might seek to establish a “safe harbor” that would be laced with traps that could ensnare the various parties who might find themselves somewhere in the chain of causation of disruptive events whose costs could be incalculable.

Perhaps the eventual outcome will be some sort of catastrophic plan similar to the scheme enacted after the hurricanes Katrina and Rita. Thus, the industry would be expected to insure itself up to a given amount above which a federal bailout would kick in, and theoretically the bailout costs would be recovered from the industry subsequently.

In effect, a revolving bailout fund would become the means for settling the Kirilenko conundrum in the short run. Once bailouts become the response of choice, they are likely to become the model for more industries and circumstances. This idea could be coming soon to a Congress near you.

Robert Feinberg served on the staff of the House Banking Committee for ten years that encompassed the savings and loan debacle and the beginning of its migration to the banking sector. Subsequently he has consulted on issues related to the crisis for law firms, accounting firms, securities firms, and trade associations.

Feinberg holds a BS.E. from the Wharton School and a J.D. from the Law School of the University of Pennsylvania. He has drafted dissenting views on landmark banking legislation, contributed to a financial blog, and written hundreds of reports for clients to document the course of the financial crisis as it has unfolded over the past three decades.

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