Last year the Securities and Exchange Commission’s Division of Trading and Markets held a series of roundtables on issues related to structure of the U.S. equity market, including market data and access, thinly traded securities, and retail fraud and how to prevent it.
On Friday, SEC Chairman Jay Clayton and the division’s director, Brett Redfearn, in a public talk at Fordham University in New York City discussed how the agency plans to address this year some of the issues raised in those roundtables.
“I think it is evident that each of three roundtables from last year raised and framed important issues that require review,” Clayton said in his prepared remarks for the talk, titled ”U.S. Equity Markets: Looking Back and Moving Forward.” He added that the agency continues to seek input from market participants and investors in its efforts to update market structure “for 2019 and beyond.”
Here are some of the highlights from Friday’s talk, according to his prepared remarks:
Market Data and Market Access
The primary regulation governing equity market structure, Regulation NMS (National Market System), is almost 20 years old and hasn’t kept up with the changing technology that has “shifted the regulatory landscape in fundamental ways,” said Clayton.
He described a two-tiered system of market data and market access in U.S. equities: a consolidated public data feed, known as the core data, that is distributed as part of that national market system, which includes stock exchanges and the Financial Industry Regulatory Authority, and ”an array of proprietary data products and access services that exchanges and others sell, [which are] generally faster, more content-rich and more costly.”
Clayton said he has instructed the staff at the Division of Trading and Markets to develop recommendations for updating core data in order to better serve the needs of investors and market participants.
Redfearn said the staff intends to explore multiple core data issues where the NMS lags proprietary systems, including speed, odd lot quotes, order protection and best execution and depth-of-book liquidity.
In addition, Redfearn said SEC staff would study governance of NMS plans that oversee the structured investment products (SIPs), transparency related to costs and revenues associated with SIPs and fair and efficient access to markets at venues.
Illiquidity in Thinly Traded Securities
The Division of Trading and Markets is also exploring alternative solutions to the current “one-size-fits-all rule,” which allows exchanges other than the exchange where a new security is first listed to trade the stock immediately after that first trade, according to Redfearn. This can shrink liquidity in some stocks because trading is dispersed among several exchanges.
”The goal would not be focused solely towards helping to aggregate liquidity in on location; it would be geared towards enabling innovative market structure solutions for thinly traded names,” said Redfearn. Periodic auctions, manual market making or something else might be considered.
Combating Retail Fraud
“More can be done” to fight fraud committed against Main Street investors beyond enforcement of suspected swindles, said Clayton. He said the agency is “actively reviewing disclosure and registration rules with an eye toward greatly reducing the opportunity for retail fraud.”
Clayton is especially concerned about Rule 15c2-11, which allows over-the-counter securities to be traded by broker-dealers if they have sufficient information to understand and evaluate securities in order to publish a bid and/or buy price and provide that information to investors.
The rule provides a “significant exception” to the agency’s disclosure rules for companies that haven’t provided recent information or have conducted a reverse merger, said Clayton. He has directed the Division of Trading and Markets staff to prepare a recommendation to update rules to address these information gaps.
Redfearn explained that broker-dealers aren’t required to have recent information about OTC stocks if the security is eligible for the “piggyback exception.” The exemption applies to an OTC security that has been quoted on at least 12 days within the past 30 calendar days without a break of more than four consecutive days.
Redfearn also said that SEC staff plans to re-examine current exemptions to penny stock rules for broker-dealers. The rules require that broker-dealers approve accounts to trade these stocks, provide disclosure to investors and receive their agreement in turn, but if the customer for these stocks is an established client of the firm or has made at least three penny stock purchases the BD is excused from those requirements.
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