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March 2, 2012

CAT's Long and Winding Road

By John D'Antona Jr.

Approval for a consolidated audit trail could come at any time from the Securities and Exchange Commission, but putting CAT into place could take years.

After the SEC passes the rule, the SROs, exchanges and brokers will meet to discuss the rule's provisions and decide how to build the audit trail and pay for it. Industry professionals estimate this could take several months or even a year, stretching into 2013 before a final blueprint is constructed and approved. Then, perhaps in late 2013 or 2014, the CAT could be operational.

Robert Colby

One recent development, however, is that the SEC appears to have given up its demand that data be available in real time. The industry was concerned it would have added unnecessary costs to a project that is expected to cost $4.1 billion to build and $2.1 billion annually to maintain.

Creation of an audit trail is a top priority at the SEC.

Currently, regulators do not have a comprehensive database of accessible trade and order data. The SEC now wants to get the trail up and running sooner rather than later, and is willing to drop, at least for the time being, its controversial real-time reporting requirement.

Robert Colby, an attorney with Davis Polk & Wardwell and former deputy director of the SEC's Division of Trading and Markets, believes that an audit trail is at the top of the SEC's to-do list and will be approved any time. But there is also a long road ahead to get it in place.

"Even after approval by the SEC, finalizing a CAT will not be an easy process," Colby said. "It could take a long time for the SROs to work out the details."

The two lingering questions are who will provide the data and who will pay for CAT? Comment letters from brokers and others said that in a low-commission environment, costs associated with building CAT would likely be passed on to investors.

The SEC had issued a request for proposal for a data service provider that could give regulators a broad swath of existing real-time market data that is currently available.

According to Brendon Weiss, vice president of legal and government affairs at NYSE Euronext, this RFP might help the SEC estimate the cost of building a CAT. The RFP is posted on the Internet.

"That is a baby step to collecting real-time data and may assist the Commission in determining the real cost of an audit trail," Weiss said.

The CAT was originally proposed by the SEC on May 26, 2010, just 20 days after the "flash crash." The thinking behind the audit trail was to give regulators a central database of trade information to help them reconstruct trades during a destabilizing market event, so they could figure out what happened and possibly create safeguards to prevent future occurrences.

The industry initially gasped at the SEC's astronomical price tag to create and operate the system. Several industry officials told Traders Magazine there are cheaper ways to build an audit trail, such as using an existing system such as OATs and adding more data functionality.

Davis Polk's Colby added that the SEC will need to decide which of the wide variety of data types it proposed should be included in the final CAT. For example, the SEC proposed including types of so-called "soft data" in the CAT-examples are commission rates paid, subaccount allocations and short-sale borrow information.

More data translates into a higher overall cost.

"Ultimately, it is difficult to say that the end investor won't bear the cost of this system," Weiss said. "The price tag to implement such a program as proposed by the Commission seems like it would result in a pass-through type fee."


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