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Mnuchin rounds up some usual suspects to blame for market stress

Treasury Secretary Steven Mnuchin

When Treasury Secretary Steven Mnuchin fingered high-frequency trading and the Volcker rule as factors behind recent misery in the stock market, he left out some other possibilities that might be contributing.

Namely, the White House's ongoing trade conflict with China and President Donald Trump's threat last week to shut down the government.

"In my opinion, market structure has led to a lot more volatility," Mr. Mnuchin said Tuesday during an interview with Bloomberg, remarking that a 500-point move for equities now seems to constitute a normal trading day. "Part of this is a combination of the market presence of high-frequency traders combined with the Volcker rule."

Mr. Mnuchin declined to say whether he thought other factors could be to blame, saying he didn't want to address broader global economic questions with the Federal Reserve in the middle of a two-day policy meeting. But he intends to ask the Financial Stability Oversight Council, which he chairs, to study volatility and whether problems with the inner workings of the stock market and regulations are adding to sharp moves.

Yet there's nothing new about lightning-fast trading or the Volcker rule. Criticism of high-speed trading hit its apex in 2014 when Michael Lewis published "Flash Boys." And banks for five years have had to adhere to Volcker, which restricted lenders from investing with their own capital. On both topics, research is mixed about how much they affect markets.

"The notion that high-frequency trading and the Volcker rule are causing the current volatility is absurd," said James Angel, an associate professor at Georgetown University who has done work for stock exchanges and high-frequency traders. "We've had them around for years and they've coincided with some of the quietest times in market history."

High-speed traders may not be blameless in moments of extreme market stress, such as the infamous Flash Crash of 2010 and a similar event for treasuries in 2014. But volatility has been below its historical average in most of the years since the 2008 financial crisis, according to the CBOE Volatility Index. Last year marked the calmest period since at least 1990.

The Securities and Exchange Commission has been the front-line regulator scrutinizing high-frequency trading. It's been mostly hesitant to rein in the practice due to concerns that any rule changes could harm modern, electronic markets as much as they help them.

But when the SEC has sought to bolster oversight it has faced intense pushback from industry. After years of study, the agency has declined to pass any significant regulations curbing high-frequency trading.

As for the Volcker rule — one of Washington's most significant, and controversial, post-crisis reforms — those who hate it have a laundry list of grievances. It's too complicated. It's nearly impossible to comply with. And it has sucked up liquidity by preventing banks from making markets — the practice of serving customers by buying and selling certain securities.

In a 2016 paper, the Fed conceded that Volcker did hurt bond market liquidity during times of stress. Still, Mr. Mnuchin's remarks Tuesday were about the stock market.

The regulation isn't a new target for Mr. Mnuchin. The Treasury Department issued a report last year that urged an overhaul, and the FSOC spent months examining Volcker.

At the end of that process, the Fed, SEC and other FSOC regulators proposed a number of changes. Their revamp hasn't been finalized, and Wall Street has complained that it falls short of providing sufficient relief. Mr. Mnuchin now seems to be indicating he wants the FSOC to review Volcker further, raising questions about when regulators might finish their work.

Mr. Trump cheered the stock market during 2017, as his historic tax cuts, deregulation and low unemployment propelled equities higher. As the gains evaporated this year, Mr. Trump repeatedly blamed the Fed for raising interest rates.

Steve Rattner, who oversaw former President Barack Obama's bailout of auto companies, criticized Mr. Mnuchin's comments on volatility.

"First, Mr. Secretary, volatility is still within normal range," Mr. Rattner wrote in a Tuesday tweet. "Second, market's biggest fear is global slowdown, caused in part by Trump's erratic policies, particularly trade war."