SEC Commissioner: Time to Reassess BD Best Execution Obligations

The Securities and Exchange Commission should reassess broker-dealers’ best execution obligations and the Order Protection Rule it created as part of the Regulation National Market System (NMS) rules created in 2005, according to SEC Commissioner Elad Roisman.

The SEC takes BDs’ obligation to obtain best execution for their clients and their orders “very seriously,” he said Thursday at the Securities Industry and Financial Markets Association Equity Market Structure Conference in New York, referring to those obligations as “one of the cornerstones of market integrity.”

Although best execution was meant to be principles-based and considered on an “order-by-order basis,” he said, “I think the commission should consider setting forth a non-prescriptive interpretation or guidance of the regulatory requirement to achieve best execution.”

While the “premise of best execution is to seek the most favorable terms for a customer’s transaction under the circumstances,”  Roisman explained, the reality is that in “many circumstances, price and speed ultimately may be determined at inputs after a broker analyzes its regulatory best interest requirements.”

Plus, there are issues beyond price and speed that determine best execution for a client’s orders, he said, like size, availability of information, trading characteristics for the security, transaction costs and ease of getting it filled.

Meanwhile, the Financial Industry Regulatory Authority cites factors such as price improvement opportunities, the likelihood of executing limit orders and client needs and expectations, Roisman noted.

“Price is relatively cut and dry, but price is just one factor in a best execution analysis, not only when firms make routing decisions, but also when regulators review those decisions after the fact,” he said.

The SEC commissioner also questioned whether regulators should focus more on outcomes and if there should be a combination of approaches, including some with a safe harbor for certain outcomes.

“I think investors, our markets and the industry as a whole would benefit from this commission saying more on broker best execution, especially if the current lack of guidance may hinder the ability of firms to satisfy best execution in a flexible, practical and principle-based manner,” he said, adding that further guidance is needed.

Roisman also was interested to hear from BDs about whether or not the Order Protection Rule had inhibited certain trading behavior that may have otherwise achieved best execution or, even worse, if OPR had required other behavior that may have even impeded best execution.

“I’d like the commission to take a closer look at the rule and its effects on our markets and to consider whether minor adjustments or more significant changes are appropriate” for OPR, he said.

When the SEC approved Reg NMS in 2005, it “could not have envisioned that 14 years later there would be 13 active equity exchanges with a 14th recently approved and two more rumored in the works as well as more than 30 alternative trading systems,” the commissioner explained.

It’s just not clear if OPR today is really best for investors, brokers and the exchanges themselves — or if it’s even still needed, he added.

In addition, Roisman highlighted a few ways the SEC could update OPR, such as by creating an exemption for block-size orders or having it apply only to exchanges that reach a specific minimum average daily volume level during a set period.

But he added: “These are just a few ideas to spur conversation. Let me be clear, I’m not committed to any [one] of them.”