The massive and costly equities and options tracking system faces a landscape more complex than when it went live six years ago.
If the Consolidated Audit Trail (CAT) has nine lives like its namesake breed of household felines, it may need one of them as its future is being decided by the U.S. Securities and Exchange Commission (SEC). This massive and costly equities and options tracking and data-keeping system faces a far more complicated landscape than when it went live in phases six years ago.
Grygo is the chief content officer for FTF & FTF News.
The CAT “tracks orders throughout their life cycle and identifies the broker-dealers handling them, thus allowing regulators to efficiently track activity in eligible securities throughout the U.S. markets,” according to the CAT NMS plan website. The SEC’s Rule 613 under Regulation NMS requires “the national securities exchanges and national securities associations … to create, implement, and maintain” the CAT system.
For the moment, the SEC is reviewing the responses to its concept release, which has asked the industry for feedback on the progress, achievements, viability, funding options, and relevance of the CAT system as a regulatory tool.
Among the more dramatic responses has been from the Securities Industry and Financial Markets Association (SIFMA), which wants the SEC to control and fund the CAT system. In addition, the Financial Industry Regulatory Authority (FINRA), a self-regulatory organization (SRO) for broker-dealers, appears to be generally in agreement with SIFMA on the shift in governance and funding to the SEC and the federal government.
Each organization has responded to the concept release with letters arguing that the SEC, which uses the CAT data, should run it because the regulator has the clout to fund and manage the ambitious transaction surveillance system cost-effectively.
One area of agreement for many impacted by the CAT system is that the cost of the platform has been a worry.
Jamie Selway
“Challenges have plagued the project from the outset. As Chairman [Paul] Atkins noted last fall: Over time, the costs of operating the CAT have ballooned beyond belief. When the CAT was established, in November 2016, its ongoing annual costs were estimated to total, at the upper end, about $55 million,” says Jamie Selway, director, division of trading and markets for the SEC, in recently prepared remarks. “Unfortunately, even that estimate proved woefully unrealistic, and costs have regularly increased. As of November 2024, annual CAT costs were projected to exceed $248 million. Ultimately, these costs make participating in our equities and options markets more expensive.”
Selway adds that “the fundamental purpose of CAT remains relevant — and the great promise of the idea that underlies it persists. Working together since last summer, the Commission and self-regulatory organizations have reduced CAT’s operating budget by over $100 million, with the prospect of additional savings in the future.”
While that assessment sounds promising for the surveillance system’s future, the CAT is on the radar of American politics. This could add a layer of uncertainty as regulatory policy can sometimes be influenced by political stances, philosophies, and the occupants of the White House.
For instance, Better Markets, which is a self-described non-profit, non-partisan, and independent Wall Street watchdog, wants the status quo for the CAT system. In a prepared statement, “The SEC Should Not Blindfold Itself By Killing the CAT,” Benjamin Schiffrin, director of securities policy for Better Markets, says the surveillance platform is key to fighting financial crime.
The CAT platform “is the most important weapon the SEC has to fight crime on Wall Street. It allows the SEC to monitor in real time the activities of Wall Street’s biggest and most dangerous financial firms and identify if they are manipulating the markets or otherwise breaking the law,” Schiffrin says.
Schiffrin adds that the SEC has used the CAT system to “identify crimes it would not otherwise uncover,” such as:
- A front-running scheme “that generated at least $47 million in illegal trading profits;”
- A fraudulent “spoofing scheme that netted the perpetrator over $380,000 in profits;” and
- . A “$2 million insider trading scheme.”
“Although the SEC justifies its campaign against the CAT based on the CAT’s costs, we show in our comment letter that the costs of the CAT pale in comparison to the size of the market the SEC regulates and the losses investors suffer from securities fraud,” Schiffrin says.
Echoing those industry participants who want to shut down the CAT system, the Cato Institute’s submission reflects the principles of the libertarian think tank.
“The concept release rests on the premise that the CAT is necessary for cross-market surveillance and enforcement. But the CAT fails a test of necessity. Regulators reconstructed the 2010 Flash Crash — the event cited as the CAT’s primary justification — before the CAT existed, using data sources available at the time to catch the responsible parties,” according to the letter, authored by Norbert Michel, vice president and director for the center for monetary and financial alternatives, and Christian Kruse, research associate for the center for monetary and financial alternatives, at the Cato Institute.
“If the Commission genuinely needs data for a specific investigation, the constitutionally sound path is for the Commission to use a judicial process to target production of essential data — not to pre-emptively collect records from every market participant. The Fourth Amendment does not yield to assertions of regulatory convenience,” according to the letter. “But that is just what the CAT is: regulatory convenience.” It also “violates Americans’ basic privacy rights.”
The Cato authors also say that the CAT system “violates the Fifth Amendment’s protections against self-incrimination as well. By compelling investors and brokers to hand over years’ worth of records and any future market orders, the Commission is forcing both investors and brokers to produce records that may incriminate themselves.”
The CATO letter also warns that the CAT system is a major cybersecurity threat and that the SEC’s “warrantless search of financial data likely violates the First Amendment, which bars the government from forcing individuals to reveal groups they associate with.”
A spokesperson for the SEC declines to comment on the issues raised by the CATO Institute submission.
Aside from the submission letters, if the CAT system survives the concept release process, then it might be enlisted to support A.I.-based efforts by the SEC and other regulators. The massive amounts of data that the CAT system is gathering and storing could fuel an A.I.-based analysis of equity and options trading patterns. If risk systems using A.I.-based technologies could build reliable, predictive models using the CAT data, it would be hard to argue that the system should be abandoned.
But I am getting way ahead of myself, as the SEC must finish a complicated and exhaustive review first — the outcome of which is impossible to predict.
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