CFTC Nadex Review: Two Market Makers Account for 99% of Flow

The US Commodity Futures Trading Commission (CFTC) has published a new rule enforcement review of the North American Derivatives Exchange (Nadex). The US-regulated subsidiary of IG Group has been providing binary options and spreads contracts to retail investors in the US.

Nadex has been consistently reporting positive results in terms of volumes, a figure that is reiterated in the report published by the US regulator. According to the CFTC’s rule enforcement review conducted between December 2014 and December 2015, the offerings traded on the exchange were split between binary options with 92.2 percent of the order flow and spreads with the remaining 7.8 percent.

The review by the US regulator has singled out a couple of deficiencies and some recommendations were issued to Nadex.

Two Market Makers Account for Almost All Liquidity

Statistical analysis of the exchange’s data reveals that almost all trades were executed by two firms acting as market makers on the exchange.

Market Risk Management and Group One Futures Trading LLC took the other side of the transaction in 99 percent of all cases. MRM was on one side of approximately 70 percent of trades, and Group One 29 percent.

According to the CFTC, Nadex market makers are not required to quote bids and offers for a contract. According to the exchange’s Market Maker Agreement, firms are permitted to withdraw from the market between one and five minutes before the expiration of a given contract.

Binary Options Trading Volumes Surpass 5 Million Contracts

The number of binary options contracts transacted via Nadex in 2015 amounted to 5,269,006, which is significantly higher than at the end of 2014. The other type of contracts, called spreads, totaled 444,923, bringing the exchange total to 5,713,929.

The total trading volume for the year preceding the target period, ending on the 11th of December 2014, was 3,622,779 contracts.

Regulatory Observations

The US regulator singles out a couple of recommendations to Nadex. The points refer to the capacity of the exchange to detect and investigate rule violations and maintain sufficient compliance staff and resources.

A compliance issue related to Market Maker Agreements with the dominant companies provided the bulk of liquidity on the exchange was also singled out. Nadex has been mandated to conduct investigations when it receives information about a prospective violation, and cases where it deems an investigation unnecessary it must explain why the alert was closed.

According to the CFTC: “Nadex should promptly complete its development of a surveillance program to detect spoofing on its markets. Nadex should provide the Division with a written description of the Exchange’s spoofing detection program once it has completed its development of such program.”

The latter statement relates to a potential case of spoofing identified in January 2017.

Below is the full text of the document released by the CFTC earlier today:

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