Now that the Securities and Exchange Commission has closed the comment period for the four market structure proposals and as industry participants continue to comment on them in public venues, something of a consensus on the four would-be rules is emerging.
Rule 605 of Reg NMS
By far the most popular of the four proposals is the update to Rule 605 of Regulation National Market System. This proposal would require larger broker/dealers to file monthly quality-of-execution reports; increase the number of executions required to be accounted for in these reports (such as orders placed outside normal business hours); and require new statistical measures to be included. Covered entities would also have to make a summary report available to the public.
Many in the industry have advocated for a sequenced implementation of the rules, assuming more than one is finalized. These sequencing proposals typically suggest that the Rule 605 update come first, in part because it is the most popular, and also because having solid disclosure rules in place would make it easier to assess the effectiveness of the other rules as they come online.
Debbie Toennnies, head of regulatory affairs at JPMorgan Chase’s corporate and investment bank, said this week at a roundtable hosted by the Securities Industry and Financial Markets Association, that the proposals should be implemented one at a time so that if one ends up doing more harm than good, it will be easier to identify which is causing the problems. Issuing Rule 605 first would provide more data to help make this assessment, she said.
There have been some misgivings expressed regarding the Rule 605 update, however.
Terrence Hendershott, a professor at the Haas School of Business at the University of California, Berkeley and a former chair of the Nasdaq Economic Advisory Board, noted that measuring execution quality for trades that are cancelled would be difficult and it might skew or misrepresent the quality of the data produced for brokers who have more cancelled orders than average.
Gregg Berman, managing director for market analytics and regulatory structure at Citadel Securities, said he was nervous about a single summary report across all stocks and orders and wanted more specifics from the SEC. He said no consumer wants to know the average price of all products at a store, because that information would not be actionable and could lead to bad decision making by compressing data.
Both of these points were framed in terms of what could be improved in the proposal and were not calls to retract it.
Tick Sizes
The second proposal that has found widespread support in the industry is the SEC’s proposal to reduce tick sizes for certain tick-constrained stocks. Nasdaq expressed support for the proposal in its comment letter to the SEC and recommends permitting half-penny ($.005), increments (Nasdaq also supported Rule 605).
Joseph Mecane, head of execution services at Citadel Securities, remarked at the SIFMA roundtable that the SEC should adopt the Rule 605 reform and tick sizes and scrap the other two proposals. This sentiment was shared by Michael Blaugrund, the chief operating officer of the New York Stock Exchange, who cited a joint comment letter signed by Charles Schwab and Citadel Securities.
Reg BE
The other two proposals, which the industry has opposed, address trade execution and securities auctions.
The first proposal would take Regulation Best Execution, currently enforced by the Financial Industry Regulatory Authority, and put it under SEC jurisdiction. Nick Losurdo, a partner in law firm Goodwin, commented that there is “broad consensus that Reg BE is not needed.” Others at the roundtable said that FINRA’s enforcement is clear and already understood, including Dan Gallagher, the chief legal compliance and corporate affairs officer at Robinhood.
Auctions
The tone for the last proposal, requiring short auctions for certain segmented orders, was more gloomy. The order competition rule, or auction proposal, would require auctions of between 100 and 300 milliseconds for certain segmented retail orders.
Gallagher said that the Reg BE and auction proposals, are “not serious” and are “not right for a serious agency,” referring to the SEC, while Jessica Wachter, SEC’s chief economist and the director of the SEC’s Division of Economic Risk and Analysis was in attendance at the SIFMA roundtable.
Berman said of Reg BE and auctions that he does not know “how you could comply with both at the same time.” The time required to execute an auction could lead to a price change that is disfavorable to the client, which would cut against Reg BE, but if they send orders to other venues to get a better price, they might be violating the auction requirement.
Christopher Larkin, managing director and head of investing and trading at Morgan Stanley’s E-Trade, noted that there would be a large technical and administrative burden for “untested” auctions. The auctions could lead to negative consequences due to market changes during the course of the auction. Berman expanded on this point and said that, currently, orders are handled sequentially. Under the auction proposal, many auctions would take place simultaneously for the same securities from different market participants. This could lead to those who placed their orders first being priced out by subsequent offers and not getting the price they thought they would get, which could cause a failed auction and a bad customer experience.
Tags: auction, broker-dealer, execution, SEC, wholesalers