[House Hearing, 118 Congress]
[From the U.S. Government Publishing Office]
SOLUTIONS IN SEARCH OF A PROBLEM:
CHAIR GENSLER'S EQUITY MARKET
STRUCTURE REFORMS
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HEARING
BEFORE THE
SUBCOMMITTEE ON CAPITAL MARKETS
OF THE
COMMITTEE ON FINANCIAL SERVICES
U.S. HOUSE OF REPRESENTATIVES
SECOND SESSION
__________
JUNE 27, 2024
__________
Serial No. 118-100
Printed for the use of the Committee on Financial Services
[GRAPHIC NOT AVAILABLE IN TIFF FORMAT]
www.govinfo.gov
__________
U.S. GOVERNMENT PUBLISHING OFFICE
56-626 PDF WASHINGTON : 2026
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HOUSE COMMITTEE ON FINANCIAL SERVICES
PATRICK McHENRY, North Carolina, Chairman
FRENCH HILL, Arkansas, Vice MAXINE WATERS, California, Ranking
Chairman Member
FRANK D. LUCAS, Oklahoma SYLVIA R. GARCIA, Texas, Vice
PETE SESSIONS, Texas Ranking Member
BILL POSEY, Florida NYDIA M. VELAZQUEZ, New York
BLAINE LUETKEMEYER, Missouri BRAD SHERMAN, California
BILL HUIZENGA, Michigan GREGORY W. MEEKS, New York
ANN WAGNER, Missouri DAVID SCOTT, Georgia
ANDY BARR, Kentucky STEPHEN F. LYNCH, Massachusetts
ROGER WILLIAMS, Texas AL GREEN, Texas
TOM EMMER, Minnesota EMANUEL CLEAVER, Missouri
BARRY LOUDERMILK, Georgia JAMES A. HIMES, Connecticut
ALEXANDER X. MOONEY, West Virginia BILL FOSTER, Illinois
WARREN DAVIDSON, Ohio JOYCE BEATTY, Ohio
JOHN W. ROSE, Tennessee JUAN VARGAS, California
BRYAN STEIL, Wisconsin JOSH GOTTHEIMER, New Jersey
WILLIAM R. TIMMONS, IV, South VICENTE GONZALEZ, Texas
Carolina SEAN CASTEN, Illinois
RALPH NORMAN, South Carolina AYANNA PRESSLEY, Massachusetts
DANIEL MEUSER, Pennsylvania STEVEN HORSFORD, Nevada
SCOTT FITZGERALD, Wisconsin RASHIDA TLAIB, Michigan
ANDREW R. GARBARINO, New York RITCHIE TORRES, New York
YOUNG KIM, California NIKEMA WILLIAMS, Georgia
BYRON DONALDS, Florida WILEY NICKEL, North Carolina
MIKE FLOOD, Nebraska BRITTANY PETTERSEN, Colorado
MICHAEL LAWLER, New York
ZACHARY NUNN, Iowa
MONICA DE LA CRUZ, Texas
ERIN HOUCHIN, Indiana
ANDREW OGLES, Tennessee
Matthew Hoffmann, Staff Director
------
SUBCOMMITTEE ON CAPITAL MARKETS
ANN WAGNER, Missouri, Chairwoman
ANDREW R. GARBARINO, New York, Vice BRAD SHERMAN, California, Ranking
Chairman Member
FRANK D. LUCAS, Oklahoma SEAN CASTEN, Illinois, Vice
PETE SESSIONS, Texas Ranking Member
BILL HUIZENGA, Michigan GREGORY W. MEEKS, New York
FRENCH HILL, Arkansas DAVID SCOTT, Georgia
TOM EMMER, Minnesota JUAN VARGAS, California
ALEXANDER X. MOONEY, West Virginia JOSH GOTTHEIMER, New Jersey
BRYAN STEIL, Wisconsin VICENTE GONZALEZ, Texas
DANIEL MEUSER, Pennsylvania WILEY NICKEL, North Carolina
MICHAEL LAWLER, New York STEPHEN F. LYNCH, Massachusetts
ZACHARY NUNN, Iowa EMANUEL CLEAVER, Missouri
ERIN HOUCHIN, Indiana
C O N T E N T S
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Thursday, June 27, 2024
OPENING STATEMENTS
Page
Hon. Ann Wagner, Chairwoman of the Subcommittee on Capital
Markets, a U.S. Representative from Missouri................... 1
Hon. Brad Sherman, Ranking Member of the Subcommittee on Capital
Markets, a U.S. Representative from California................. 3
WITNESSES
Mr. Jonathan Brogaard, Professor, David Eccles School of
Business, University of Utah................................... 5
Prepared Statement........................................... 7
Mr. Kevin Kennedy, Executive Vice President and Head of North
American Market Services, Nasdaq, on behalf of the Equity
Markets Association............................................ 57
Prepared Statement........................................... 59
Mr. Ari Rubenstein, Co-Founder and Chief Executive Officer,
Global Trading Systems (GTS)................................... 67
Prepared Statement........................................... 69
Mr. Justin Schack, Partner and Head of Market Structure,
Rosenblatt Securities.......................................... 76
Prepared Statement........................................... 78
Mr. John Ramsay, Chief Market Policy Officer, Investors Exchange
(IEX).......................................................... 88
Prepared Statement........................................... 90
APPENDIX
Hon. French Hill:
Letter to Chairman Gensler................................... 120
RESPONSES TO QUESTIONS FOR THE RECORD
Written responses to questions for the record from Mr. Jonathan
Brogaard
Representative Zachary Nunn.................................. 126
Representative Michael Lawler................................ 127
Representative Maxine Waters................................. 128
Written responses to questions for the record from Mr. Ari
Rubenstein
Representative Zachary Nunn.................................. 129
Representative Maxine Waters................................. 131
Written responses to questions for the record from Mr. Justin
Schack
Representative Michael Lawler................................ 132
Representative Maxine Waters................................. 135
Written responses to questions for the record from Mr. John
Ramsay
Representative Maxine Waters................................. 136
LEGISLATION
H.R. 5273, to permit a registered investment company to omit
certain fees from the calculation of Acquired Fund Fees and
Expenses, and for other purposes............................... 137
H.R. 8222, the Regulation Advancement for Capital Enhancement Act
of 2024, to automatically approve certain offerings statements
filed with the SEC under Regulation A tier 2................... 140
H.R. 6726, the Responsible Accounting Standards Act of 2023, to
require the accounting principles standard setting body to
comply with the Administrative Procedure Act and the Government
in the Sunshine Act, to require the head of such body to
testify annually before Congress............................... 143
SOLUTIONS IN SEARCH OF A PROBLEM:
CHAIR GENSLER'S EQUITY MARKET STRUCTURE REFORMS
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Thursday, June 27, 2024
U.S. House of Representatives,
Subcommittee on Capital Markets,
Committee on Financial Services,
Washington, DC.
The subcommittee met, pursuant to notice, at 2:01 p.m., in
room 2128, Rayburn House Office Building, Hon. Ann Wagner
[chairwoman of the subcommittee] presiding.
Present: Representatives Wagner, Lucas, Sessions, Huizenga,
Hill, Steil, Meuser, Lawler, Sherman, Meeks, Scott, Vargas,
Gottheimer, Casten, and Nickel.
Chairwoman Wagner. The Subcommittee on Capital Markets will
come to order.
Without objection, the chair is authorized to declare a
recess of the committee at any time.
This hearing is entitled ``Solutions in Search of a
Problem: Chair Gensler's Equity Market Structure Reforms.''
Without objection, all members will have 5 legislative days
within which to submit extraneous materials to the chair for
inclusion in the record.
Before I recognize myself for 5 minutes, I want to take a
point of personal privilege and wish the gentleman from
Georgia, Mr. Scott, a very happy, happy birthday.
Mr. Scott. Well, is that not nice and gracious of you.
Thank you very much.
Chairwoman Wagner. One of my dearest friends----
Mr. Scott. Yes, indeed.
Chairwoman Wagner.--on both sides of the aisle. Happy
birthday, Mr. Scott.
Mr. Scott. Thank you.
Chairwoman Wagner. I now recognize myself for 5 minutes to
give an opening statement.
OPENING STATEMENT OF HON. ANN WAGNER, CHAIRWOMAN OF THE
SUBCOMMITTEE ON CAPITAL MARKETS, A U.S. REPRESENTATIVE FROM
MISSOURI
Today's hearing will examine equity market structure
reforms put forward by Securities and Exchange Commission, SEC,
Chairman Gensler that will reshape American equity markets.
To the casual observer tuning in today, that might sound
like a sensible endeavor for a regulator, especially if the
regulator identified clear examples of problems and crises in
our markets and if the regulator clearly demonstrated how the
reforms would result in better outcomes for market
participants.
Unfortunately, those critical elements are missing from
Chair Gensler's proposed overhaul of our equity market
structure.
American's capital markets are the deepest and most liquid
in the world. Companies from all over the world choose to go
public in the United States and list on American exchanges.
Almost 12 billion shares trade each and every day in the United
States through American exchange markets alone.
Over the past 20 years, the U.S. equities markets have
changed dramatically and for the better, becoming more
competitive, efficient, and accessible for everyday American
investors. Since the introduction of zero-commission trading,
which has become the norm since 2019, retail trading has seen
record growth and now accounts for between 10 to 20 percent of
trading volume in the U.S. Over 100 million Americans rely on
our equities markets for their financial security, stability,
and retirement.
Nevertheless, in December 2022, Chair Gensler and the SEC
proposed four interconnected equity market structure proposals
that would upend our current market structure and harm millions
of retail investors. Then, in October 2023, the SEC proposed
yet another significant equity market structure rule, on
volume-based pricing.
For those of you who keep count, that is five sweeping
equity market structure proposals from the SEC in the span of
less than a year.
In March 2024, the SEC unanimously adopted one of those
proposals--amendments to update Rule 605 disclosures and
capture more useful information on order execution.
You might be saying to yourself, more useful disclosures
and better data on equity quality sounds like a smart place for
the SEC to start and I would agree with you. Taking that
improved data from Rule 605 updates, analyzing it, and letting
your findings inform which additional reforms are necessary, or
whether any reforms are necessary, would be the prudent
approach for the SEC.
Unfortunately, Chair Gensler disagrees, as he is intent on
advancing the remaining four proposals without analyzing the
improved data and potential findings from Rule 605.
You might be saying to yourself, well, then surely the SEC
has identified clear problems or failures these reforms will
address or they can produce economic analyses demonstrating
that market participants will unmistakably be better off
because of these reforms.
Well, I am sorry to disappoint you again. Throughout its
economic analyses of remaining proposals, the SEC explicitly
admits numerous times that the economic effects of the
proposals are unknowable, not to mention the SEC's economic
analyses also inappropriately rely on data the SEC itself
concedes is outdated and inaccurate.
Case in point: To justify three of the remaining four
proposals, the SEC relies on trade execution quality data from
Rule 605 reports despite SEC staff admitting that current Rule
605 reports offer limited usefulness. After all, updating and
improving Rule 605 to yield more useful data is what the SEC
recently approved just 3 months ago. We have no findings.
Ensuring that the SEC acts prudently and only issues
regulations that are absolutely necessary, after providing
clear evidence of problems and analyses demonstrating the
desired positive impacts, should not be a partisan issue.
Millions of everyday Americans depend on the success of our
equity markets for their financial security. These Americans
are looking to us to ensure that Chair Gensler does not use a
wrecking ball when perhaps a scalpel would be more appropriate.
I want to thank our witnesses for their testimony, and I
look forward to our discussion.
The chair now recognizes the ranking member of the
Subcommittee on Capital Markets, the gentleman from California,
Mr. Sherman, for 4 minutes for an opening statement.
OPENING STATEMENT OF HON. BRAD SHERMAN, RANKING MEMBER OF THE
SUBCOMMITTEE ON CAPITAL MARKETS, A U.S. REPRESENTATIVE FROM
CALIFORNIA
Mr. Sherman. We should mourn the Supreme Court's ruling of
today that will make it much more difficult for the SEC to
enforce the rules that keep our capital markets the safest in
the world.
This is the worst Supreme Court decision since yesterday,
when the Supreme Court legalized corruption by saying that a
mayor could give a million-dollar contract and take $13,000 in
cash and that is just fine as long as you cannot prove the quid
pro quo.
So I would advise corrupted officials around this country,
simply do not put the quid pro quo in writing; you will be fine
with the Supreme Court.
I am glad to see the SEC is doing its job. I have been here
for 28 years and heard many hearings where they get criticized
for not doing enough. They are discharging the mandates we have
given them by statute, particularly Dodd-Frank.
When it comes to our markets, there is the commission that
you pay--and we are to tell investors, ``Oh, zero
commission''--and then there is the spread. Investors are not
protected unless they are getting not just best execution but
the most enhanced best execution that they can get. The SEC has
identified $1.5 billion per year that investors are losing
because, while they are getting something that is called best
execution, in the securities world it is not enhanced best
execution.
I point out that being able to tell people that it is zero-
cost when it is not zero-cost is a way to encourage the game-
ification and day trading that is unfortunately part of our
capital markets.
I am pleased to see the SEC is moving in the right
direction, and I hope they will work with Financial Industry
Regulatory Authority (FINRA) to best work to make sure that
investors know not only what was the commission but what was
the spread and whether a better execution could have been
available to them.
I will point out that 90 percent of the retail orders are
going to wholesalers. We should, as a government, do everything
possible not to encourage the use of these wholesalers, because
when, instead, that trade goes to an exchange, the public is
informed, we have the consolidated audit trail, and this is
critical to the effective capital markets.
When it comes to crypto, it was in 2022 in this room that I
told the SEC that if crypto was an unregistered security, that
crypto exchanges were trading an unregistered security. They
have finally moved in that direction, as well they should.
Unfortunately, Congress--the House moved in the wrong
direction by passing FIT21, which not only has an effect on the
crypto world but offers an opportunity to take traditional
stocks and bonds and tokenize them and avoid the whole
securities regulation process. It is the passage of FIT21 that
causes me to say something that I never say, which is, thank
God for the U.S. Senate.
When it comes to trading, remember, that spread is very
important. The spreads that are available on big stocks, like
Apple and Amazon, are roughly one-tenth what crypto traders are
paying for bitcoin and Ethereum. So we have efficient markets
for major stocks, and we have fleeced the investor margins, or
spreads, when it comes to crypto.
Finally, one thing the SEC has not yet dealt with is how
the exchanges have totally insulated themselves from liability
when they make mistakes, thus shifting the costs of that
liability--and I refer to, I think it was, the Facebook
offering of a decade ago--shifting that liability onto the--or
the practical effect of the liability onto the brokers. I look
forward to exploring that as well.
I yield back.
Chairwoman Wagner. I am now going to move on to witness
introductions and testimony. We will certainly hear from the
ranking member of the full committee when she arrives.
I want to tell all members and our witnesses that we are
going to have a pretty hard gavel, because we have votes that
are coming up in less than an hour and a half and I want to
move through as expeditiously as possible.
Today, we would like to welcome the testimony of:
Jonathan Brogaard. Professor Brogaard is professor at David
Eccles School of Business at the University of Utah.
Kevin Kennedy. Mr. Kennedy is executive vice president and
head of the North American market services at Nasdaq,
testifying on behalf of the Equity Markets Association.
Ari Rubenstein. Mr. Rubenstein is co-founder and chief
executive officer of Global Trading Systems, GTS.
Justin Schack. Mr. Schack is partner and head of market
structure at Rosenblatt Securities.
Then John Ramsay. Mr. Ramsay is chief market policy officer
at IEX.
We thank each of you for taking the time to be here.
Each of you will be recognized for 5 minutes to give an
oral presentation of your testimony. Without objection, each of
your written statements will be made part of the record.
Professor Brogaard, you are now recognized for 5 minutes
for your remarks.
STATEMENT OF JONATHAN BROGAARD, PROFESSOR, DAVID ECCLES SCHOOL
OF BUSINESS, UNIVERSITY OF UTAH
Mr. Brogaard. Chair Wagner, Ranking Member Sherman, and
distinguished members of the Capital Markets Subcommittee,
thank you for this opportunity to come before you to discuss
the SEC's proposed equity market structure reforms.
It is an honor to be afforded this opportunity to testify
today. I am deeply appreciative of this committee's work to
safeguard our financial markets and economy. In this testimony,
I hope to assist the subcommittee's deliberations into the
SEC's proposed overhaul of equity market structure.
The importance of this hearing cannot be overstated. The
SEC's four market reform proposals seek to implement a dramatic
transformation in the core infrastructure that underpins how
securities are traded. It covers several key aspects, but
perhaps most importantly, it seeks to reshape how everyday
retailer investors experience securities trading.
Our equity market is the global leader in terms of market
liquidity, market quality, and efficiency. This status is not a
given. Congress and the SEC, working alongside market
participants, have invested in rulemaking and reform over
decades that have introduced competition, broadened investor
choice, and reduced the costs of trading for institutional and
retail investors.
For example, because of Regulation National Market System
(Reg NMS) and Regulation Alternative Trading System (Reg ATS),
the market ecosystem has 16 exchanges and 30 trading systems
that interact as a part of a dynamic and evolving ecosystem
that is unparalleled. As such, any transformative reform
project must be approached with caution and its cost and
benefits be well understood. This is especially true for
measures seeking to reshape the retail trading experience, as
the proposed reforms seek to do in a major way.
The SEC's proposed reforms directly target wholesalers--
firms that provide brokerage firms access to a sophisticated
and competitive system of handling investor orders. These
proposals would require individual brokerage firms to
internalize these activities. In my view, such an outcome could
damage the quality and increase the cost of the retail investor
experience.
Wholesalers today enjoy economies of scale. They have
accumulated experience and expertise. They are also well-
connected to infrastructure, capable of buying and managing
data from across exchanges and other platforms, and,
subsequently, deliver fast and reliable execution at low cost
to investors.
Importantly, brokerage firms regularly monitor the
execution quality of the different wholesalers and reallocate
order flow based on performance. This creates competition
across wholesalers and aligns wholesalers' incentives with
those of retail customers. The degree to which wholesalers
compete with each other to offer improved execution quality
should not be overlooked.
Our equity markets are valued at over $40 trillion and
represent 40 percent of global equity market capitalization.
The U.S. equity market stands ahead of its competitors,
empowering efficient capital formation, risk management, and
investor welfare.
Over the last two decades, the U.S. equity market has
radically transformed its market structure to deliver an
extraordinary slate of economic gains across the board,
supporting individuals in building their retirement accounts
and expanding access to capital markets to a broad swath of the
population.
Of the four proposals the SEC set forth regarding equity
market structure in December 2022, the amended Rule 605
proposal has been adopted. The amended Rule 605 mandates
detailed public disclosure of order execution quality by market
centers, representing a significant enhancement in the
transparency and availability of stock trading practices.
I applaud this move by the SEC. It will provide new and
important data to academics, regulators, industry participants,
and the public about how markets are functioning. As an
academic, I am excited to see what new insights we will be able
to glean from this data that can be used to further understand
and enhance our markets.
Chair Wagner, Ranking Member Sherman, and distinguished
members of the Capital Markets Subcommittee, the SEC has
proposed an expensive and untested redesign of equity market
structure without first demonstrating a viable and credible
economic case for doing so.
Ensuring healthy and diverse retail participation
represents a delicate balancing act that regulators,
policymakers, and market participants have succeeded in
improving over time. Retail investors have never had it better.
The discussion around retail market quality is focused around
not dollars per share, not dimes per share; it is focused
around pennies and sub-pennies per share. It is of the utmost
importance that regulators do not enact rules that might
reverse these gains.
Thank you.
[The prepared statement of Mr. Brogaard follows:]
[GRAPHIC(S) NOT AVAILABLE IN TIFF FORMAT]
Chairwoman Wagner. The gentleman yields back.
The chair now recognizes Mr. Kennedy for 5 minutes to give
your oral remarks.
STATEMENT OF KEVIN KENNEDY, EXECUTIVE VICE PRESIDENT AND HEAD
OF NORTH AMERICAN MARKET SERVICES, NASDAQ, ON BEHALF OF THE
EQUITY MARKETS ASSOCIATION
Mr. Kennedy. Thank you, Chairman Wagner and Ranking Member
Sherman. It is an honor to testify this afternoon for you and
your esteemed colleagues.
The U.S. equity markets are the envy of the world. Any
reforms of equity market structure, no matter how well-
intended, must be thoughtful and rely on strong supporting data
and a full understanding that consequences will follow.
Nasdaq's unique role as a listings venue for public
companies that brings Initial Public Offerings (IPOs) to the
marketplace distinguishes our point of view here. While other
trading centers simply operate order books that seek to match
buyer and seller, we facilitate the public company model and
foster U.S. IPO competitiveness.
We care about the trading environment for all companies--
emerging growth companies, the community bank, the biotech
startup, and the local manufacturer--where your constituents
invest in their 401(k)'s and save for houses and college. Their
investment capital supports jobs and growth in every
congressional district.
Public companies rely on the capital markets to attract
investors and to establish a stable valuation for the price of
their stock and they use that valuation to grow, hire, and
compete.
With this in mind, and though we share some of the SEC's
reform objectives, they simply propose too much too quickly to
fix an already-competitive market that is not broken.
Among our primary concerns is that they will harm the
transparent, accessible, and publicly displayed lit markets.
The past few years, lit markets have faced significant erosion
due to regulatory disadvantages relative to dark markets,
affecting the quality and quantity of the orders we receive.
This is concerning because quotes displayed publicly on lit
markets like Nasdaq are used exclusively to calculate the
national best bid and offer, the NBBO--the best available price
to buy and sell stocks across the equity markets during the
trading day. We fear the net effects will undermine the
integrity and reliability of the NBBO as the true best
available price for stocks, rendering it more difficult and
expensive for Americans to invest in our markets.
Nasdaq supports in concept the need to refine the minimum
increment in which stocks can be quoted, but the SEC proposal
misses the mark. Most of the industry suggests that the SEC
adopt the simple approach of adding one tick size below 1 cent,
at a half-penny.
We also support harmonizing the minimum increment in which
stock orders may be executed across both exchanges and non-
exchanges. As said previously, exchanges suffer a regulatory
disadvantage relative to non-exchanges insofar as exchanges
cannot price or execute orders in increments as fine as others.
With respect to the SEC's cap on fees the exchanges charge
to access liquidity, Nasdaq is strongly opposed. It lowers the
cap far beyond what is needed for tick reform, slashing the
access fee cap more than 80 percent in some cases, as a means
of addressing ill-founded concerns about exchanges' payment of
liquidity rebates.
This proposal will weaken the NBBO and the incentives that
encourage better liquidity and tight spreads. There is simply
no evidence or data suggesting rebates represent harmful
conflicts of interest, and there is ample evidence that rebates
benefit the markets by strengthening the NBBO.
We appreciate the Commission's desire that retail orders
are exposed to greater competition but their proposal lacks the
data to justify the solution, and the SEC risks too much by
solely focusing on novel and untested auctions. They should
instead permit exchanges and others to innovate their own
solutions.
Nasdaq supported the 605 reforms. However, that data should
underpin any justification for the Commission's other market
structure proposals. We urge the SEC to slow down until they
can collect the enhanced 605 data before it determines whether
and how to proceed with these other market structure proposals.
The volume-based pricing proposal upends practices critical
to the fabric of the markets and ignores its interplay with
other pending market structure proposals, several that address
the same problems.
The SEC's assertion is inaccurate that volume-based pricing
hurts small and medium-size brokers from competing with larger
brokers. Competition among brokers depends on factors unrelated
to exchange fees, and there is no evidence that tiered pricing
unduly influences broker routing choices. The proposal is
arbitrary and fails to account for off-exchange markets where
volume-based pricing would be unaffected.
Finally, volume-based pricing does not inhibit small
exchanges from competing with large ones. Exchange competition
is fierce, with 16 exchanges and counting.
On the SEC's best execution rule, they should proceed
carefully and listen to industry feedback, as the proposal has
too many questions unanswered and fails to indicate how best
execution enforcement will differ from FINRA and the Municipal
Securities Rulemaking Board (MSRB).
In closing, Nasdaq is open to refinements to U.S. equities
market structure based on data-driven and incremental changes.
We look forward to working with the SEC, with Congress, and
broader trading environment stakeholders to ensure that the
U.S. equities markets remain the most liquid and robust markets
in the world.
Thank you again for the opportunity to testify.
[The prepared statement of Mr. Kennedy follows:]
[GRAPHIC(S) NOT AVAILABLE IN TIFF FORMAT]
Chairwoman Wagner. Thank you, Mr. Kennedy.
The chair now recognizes Mr. Rubenstein for 5 minutes to
give your oral remarks.
STATEMENT OF ARI RUBENSTEIN, CO-FOUNDER AND CHIEF EXECUTIVE
OFFICER, GLOBAL TRADING SYSTEMS (GTS)
Mr. Rubenstein. Chair Wagner, Ranking Member Sherman, and
distinguished members of the subcommittee, thank you for the
opportunity to testify today. My name is Ari Rubenstein, and I
am the CEO of GTS, a global electronic market making firm.
In my testimony today, I will address several key areas
crucial to understanding and maintaining the robustness of our
U.S. equity markets. These include: the strength of the U.S.
equity markets, the importance of empirical data in regulating
those markets, the interconnectedness of the SEC's current
equity market structure proposals, and, finally, concerns with
those proposals.
U.S. equity markets are the cornerstone of global finance.
Our markets are the largest, best performing, and the most
liquid and have a certainty of execution that is fundamental to
efficient capital formation and price discovery.
With all-time-high retail investor participation and
reduced commission rates, the retail experience has never been
better. Given the status of U.S. equity markets as the global
standard, our starting point for any potential changes needs to
be to do no harm.
The strength of our markets prompts a critical question:
How did we achieve all this? Market makers like GTS play a
crucial role by standing ready to both buy and sell at all
times and taking on those associated market risks which
facilitates transactions through immediate liquidity.
Liquidity in our markets is highly dependent on and
reactive to market structure. That is why any regulatory
changes must be data-driven. A data-driven approach starts by
first identifying market structure problems and goals, then
assessing credible data and economic analysis and alternatives,
all with an eye toward ensuring that any changes, even if well-
intended, are justified and do not detract from the strong
markets that regulators and market participants alike have
worked so hard to achieve.
Unfortunately, proper analysis of the SEC's market
structure proposals is all but impossible because the SEC has
set forth proposals that are interconnected and overlapping,
with no analysis of cumulative costs and benefits, combined
effects of the proposals together, or the potential for
unintended consequences.
Without adequate evaluation of the cumulative effects of
these proposals, any single proposal could significantly alter
markets and incentive structures, potentially making additional
rules unnecessary or changing the market dynamics that other
proposals seek to address. Implementing these proposals hastily
could have severe consequences for U.S. capital markets.
Turning now to the SEC's Regulation NMS proposal aimed at
modifying tick sizes, despite some disagreement amongst
stakeholders about how extensive any problem may be and the
proposed solution, there is broad industry support behind
advancing a more limited version of the proposal that aligns
with our views of proceeding in a data-driven, incremental
fashion.
The SEC could proceed with adjusting the tick size to a
half a penny for only those stocks determined to be tick-
constrained, then engage in further analysis based on the
effectiveness of this change before determining whether
additional changes are justified.
This SEC's order competition proposal, on the other hand,
introduces significant uncertainties and operational
complexities that present heightened potential risks to market
stability. While the potential impacts of the liquidity
provision and execution quality are concerning, the operational
complexities its mandated auctions would entail are hard to
overstate. Given these factors, the order competition proposal
presents a substantial risk to markets as an untested and
experimental solution to an unproven problem.
Finally, the SEC's best execution proposal would establish
for the first time a commission-level best execution standard
for broker-dealers. Best execution is not a new concept in the
securities markets, and much of the proposal appears to be
redundant and overlapping with existing obligations.
Even if a problem did exist with the current best execution
framework, the most effective way to handle any concerns in
this space would be through the SEC's oversight of self-
regulatory organizations and the implementation and enforcement
of existing rules.
Just as a doctor would never treat an undiagnosed patient,
market structure changes should be approached with careful
analysis and precision. Given the health of U.S. equity
markets, the SEC should proceed thoughtfully and incrementally,
focusing on empirical data to support any further regulatory
action.
Thank you for your attention, and I look forward to your
questions and any further discussions on the topic.
[The prepared statement of Mr. Rubenstein follows:]
[GRAPHIC(S) NOT AVAILABLE IN TIFF FORMAT]
Chairwoman Wagner. Thank you, Mr. Rubenstein.
Mr. Schack, you are now recognized for 5 minutes to give
your oral remarks.
STATEMENT OF JUSTIN SCHACK, PARTNER AND HEAD OF MARKET
STRUCTURE, ROSENBLATT SECURITIES
Mr. Schack. Chair Wagner, Ranking Member Sherman, honorable
members of the subcommittee, good afternoon. Thank you for
inviting me to testify.
My name is Justin Schack, and I am partner and head of
market structure at Rosenblatt Securities. The views I express
today are my own and not necessarily those of my partners or my
firm.
For nearly three decades, I have earned a living studying
equity market structure. During that time, our markets have
evolved dramatically.
Before this transformation, the average person could easily
understand how they functioned. Trading mostly was manual,
slow, and inefficient. Member-owned marketplaces dominated
trading, shunning improvements that could have bettered end-
user outcomes. Investors paid bid-ask spreads as wide as 25
cents per share on actively traded stocks.
Reforms during the late 1990s and early 2000s collapsed
those spreads to as little as one penny and began to fragment
trading across a wider array of competitive market centers.
This proved painful for many intermediaries but opened
opportunities for others, all while putting more money in end
investors' pockets.
The reforms also had vast unintended consequences. Wall
Street responded to them in ways that policymakers did not
anticipate, necessitating even more regulation.
As a result of that long evolutionary cycle, the average
person today cannot easily understand how markets work. They
are highly automated, lightning-fast, vastly fragmented, and
extraordinarily complex. No one with a blank slate would design
such a complex system to achieve such a simple task.
Fortunately, today's markets are also far more efficient
for end users. Commission rates for institutional and retail
investors have come down steadily. Most retail trading is now
commission-free. All end costs for institutions are far lower
and investors can access troves of data to help them manage the
agent-principal conflicts that are imbedded in today's complex
structure.
Considering what I have learned analyzing this sea change,
I believe policymakers should bear in mind three principles
regarding market structure.
First, the interests of asset owners and issuers should be
paramount when making policy.
Now, between those two groups of end users lies a vast
array of intermediaries. They bear most of the burden of
today's complexity, and they are typically the loudest voices
in any policy debates but middlemen are remarkably skilled at
adjusting to new rules of the road and preserving their
positions in our market ecosystem.
Asset owners and issuers are usually among the quietest
voices in policy debates. They have much at stake but often are
preoccupied with jobs, families, maximizing shareholder value.
They are far less able than intermediaries to make lemonade
from policy lemons. They need public servants to protect their
interests and recent history is filled with examples of reforms
benefiting end users while forcing painful but successful
evolution for middlemen.
Second, despite the unintended consequences that I
described earlier, end users receive excellent outcomes in
today's market structure, but today's efficiencies were far
from guaranteed.
During the early 2000s, as the market adjusted to massive
regulatory change, asset owner transaction costs rose for a
time. Eventually things got and stayed better, but this
growing-pains period is a cautionary example of how the
unintended consequences of major reforms can harm asset owners
and issuers.
Third, and most important, policymakers should prove clear,
significant harm to market end users before adopting major
reforms.
Now, let me be clear, such a high threshold for action does
not mean we should never undertake any reforms or question
whether end-user outcomes could be even better. Recently
adopted amendments to Rule 605 of Reg NMS, for instance, will
give retail investors a better view of execution quality
without upending market practices and behavior. Carefully
modifying our one-size-fits-all tick size regime would further
reduce bid-ask spreads for many stocks, putting more money in
asset owners' pockets with a minimum of disruption and
unintended consequences, but not every cause for concern or
inquiry crosses that threshold of clear harm to end users and
justifies major reforms.
Absent such evidence, new rules to discourage fragmentation
and foster more multilateral interaction of trading interest on
public markets, as contemplated under the proposed order
competition rule and Regulation Best Execution, risk doing more
harm than good.
Similar flaws plague the SEC's proposal to ban certain
volume-based transaction fee incentives offered by exchanges. I
fear this measure could make competition more difficult for
smaller brokers in exchanges, counter to its stated intent,
while potentially harming market quality for end users.
Thank you again for inviting me to testify, and I look
forward to answering your questions.
[The prepared statement of Mr. Schack follows:]
[GRAPHIC(S) NOT AVAILABLE IN TIFF FORMAT]
Chairwoman Wagner. Thank you, Mr. Schack.
Mr. Ramsay, you are now recognized for 5 minutes to give
your oral remarks.
STATEMENT OF JOHN RAMSAY, CHIEF MARKET POLICY OFFICER,
INVESTORS EXCHANGE (IEX)
Mr. Ramsay. Thank you, Chairman Wagner, Ranking Member
Sherman, and other esteemed members of the subcommittee.
My name is John Ramsay, and I am chief market policy
officer at Investors Exchange, or IEX. IEX is a registered
stock exchange founded on innovating in ways that promote
transparency and fairness in stock trading and, most of all,
that serve American investors.
I will focus my remarks on the SEC's proposed changes to
the set of rules called Regulation NMS, which the SEC adopted
in 2005, nearly 20 years ago. Reg NMS sets the basic rules of
the road for stock trading, covering things like the minimum
price increments for displayed quotes and the prices investors
must pay to access those quotes, among other things.
The SEC has been considering modifications to these rules
for many years, but its recent NMS proposals constitute the
first comprehensive effort to update them since they were
issued.
The world of stock trading, like much else in the world,
has changed dramatically since 2005. At that time, YouTube was
brand-new, the iPhone was 2 years away from being released,
most trading on the New York Stock Exchange still occurred on a
trading floor, and Nasdaq was not yet an exchange. Many people
investing today may well have been in kindergarten when the
rules were written.
I would like to briefly walk through each part of these
proposed changes.
The first is tick size.
In 2005, the SEC set a common standard, that markets could
accept and display orders only in 1-cent increments. This made
sense at the time since investors had no interest in trading at
narrower increments. Today, much trading--a majority, in fact--
is concentrated in very-high-volume stocks which would quote at
narrower prices but are constrained by the 1-cent tick
standard.
An overwhelming consensus of commenters endorsed one of the
alternatives the SEC identified in its proposal--to adopt a new
half-cent tick size for these high-volume stocks so
participants can quote at prices where people want to trade.
A second change involves fees to access exchange quotes.
Reg NMS prohibited traders from trading through the price
of displayed quotes, which gave exchanges unusual pricing
power. Because the SEC did not want exchanges to use this power
to charge a coercive toll on participants, who often had to
trade on exchange, it capped access fees at a level equal to
the highest fees any markets were charging at that time.
Today, most exchanges continue to charge this maximum fee
even though technology has made trading much more efficient and
markets without displayed quotes charge much less to access
liquidity. As a result, investors are paying billions in excess
toll fees--exactly what the SEC had tried to avoid.
To address this problem, the Commission proposed to
substantially reduce the access fee cap for all listed stocks
to a level that better matches competitive market prices. This
proposal, too, has received broad support, especially from
asset managers and pension funds, who hold many trillions of
dollars for American investors.
The other parts of the NMS reforms would increase
transparency.
One would require that exchanges set their transaction
prices so the amount of the fee charged or rebate paid for a
trade is known at the time of the trade--which, believe it or
not, is usually not possible to know today. That would improve
visibility and give investors a better ability to reclaim
rebates that are paid out on their accounts.
The other improvement would fast-track the implementation
of changes ordered under Chairman Clayton's tenure. This
relates to the fact that the best prices shown are almost
always based on quotes for at least 100 shares, which is an
age-old convention. Today, a majority of trades are in smaller
odd lots. There are often better odd-lot prices available, but
average investors cannot see them because the public data feeds
are still using the old standard. The SEC is proposing to
mandate that these better odd-lot quotes be shown to everyone.
These transparency improvements also have very broad
support and all of the changes I have described do not require
more data or analysis. They all involve sensible updates to
existing rules, they respond to what investors have said they
want, and they build on years of study and debate.
A big part of the reason the U.S. equity markets are the
strongest in the world is their regulators have been vigilant
about keeping regulation up to date and relevant. We
respectfully submit that the Commission has all the data,
input, and rationale to move forward with the changes I have
described without delay.
Thank you, and I appreciate--look forward to your
questions.
[The prepared statement of Mr. Ramsay follows:]
[GRAPHIC(S) NOT AVAILABLE IN TIFF FORMAT]
Chairwoman Wagner. Thank you, Mr. Ramsay.
I thank all of our witnesses for their testimony.
We will now turn to member questions, and I recognize
myself for 5 minutes for questioning.
Professor Brogaard, yesterday, I and other Republican
members of this subcommittee sent a letter to Chair Gensler
requesting that the SEC delay finalizing any remaining equity
market structure proposals until after the new Rule 605
amendments are fully implemented. This would allow the new Rule
605 data to be collected and properly analyzed.
Considering the importance of our equity markets, do you,
sir, agree with us that the SEC should base any equity market
structure reforms on the most up-to-date and relevant market
data?
Mr. Brogaard. Thank you for that question, Chair Wagner.
Yes, I would wholeheartedly agree that we need accurate,
up-to-date information to make informed decisions about what
other market structure changes we may want to consider.
Chairwoman Wagner. Considering the tick size proposal, the
best execution proposal, and the order competition proposal all
reference old Rule 605 data in their economic analyses, do you
believe that the new Rule 605 data will change the economic
baseline of these rules?
Mr. Brogaard. Yes, I do. There are several changes to the
new Rule 605 or amended 605 data that would enhance the cost-
benefit analysis for these other proposed rules.
Chairwoman Wagner. What are the dangers of basing major
forms on stale, inadequate data?
Mr. Brogaard. I think you might end up with the wrong--the
wrong conclusion.
Chairwoman Wagner. I could not agree more.
Mr. Rubenstein, the SEC acknowledges in its best execution
proposal that, if adopted, this regulation could actually
result in increased costs and commissions for retail investors,
when today these investors enjoy commission-free trading.
Do you think it is in retail customers' best interest to
pay more for services that they are getting for free today?
Mr. Rubenstein. Thank you, Chair Wagner, for that question.
Absolutely not. We should strive and continue to strive to
make investing democratic, inexpensive, and as accessible as
possible to as many Americans as we can.
Chairwoman Wagner. Mr. Kennedy, we cannot help but notice a
concerning trend involving Chair Gensler and the SEC. Under his
leadership, the SEC will adopt a controversial, sweeping
rulemaking, industry groups will sue the SEC and challenge the
rulemaking in court, and, in several instances, the courts have
struck down the rulemaking in question. These days, seemingly
each new adopted rulemaking triggers this series of events.
In your opinion, has Chair Gensler done a disservice to the
SEC as an institution by normalizing getting sued over and over
again and losing most of the time--yet again today in the
Supreme Court--on questionable rulemakings?
Mr. Kennedy. I think they are doing their job in the way
they know how, but they are not listening to us. They are not
going through the same historic process that we have gone
through for decades when we have made great changes to these
markets.
Everyone here today, Chairman Wagner, said we operate the
best markets in the world. Yet, the SEC is not putting us in a
position to sit back and make small, incremental changes that
are data-driven, where we could analyze the data. Instead, they
are jumping ahead and getting to a result, and--I think the
heading of this panel is best--it is, they are finding a
solution for a problem that may not exist.
Chairwoman Wagner. Thanks, Mr. Kennedy.
Mr. Schack, one of the constant themes in your writings to
the SEC is that the SEC appears to rely too much on theory and
not enough on hard data as to practical benefits or costs.
Do you believe at least certain elements of the SEC's
equity market reform proposals rely on unproven expectations on
how a rule might work?
Mr. Schack. Thank you.
I should say first, I think, as Mr. Kennedy said, the
people at the SEC are hardworking public servants. They are
trying to get to the right answers, and I think they do a good
job overall but there definitely is some of that in the
proposals that we are talking about today.
I think the volume-based transaction fee proposal is
probably the best example of that. It envisions this world in
which things will get better for smaller brokers competitively,
they will get better for smaller exchanges competitively, and I
can envision some scenarios in which the exact opposite would
happen.
If you think about small brokers particularly--we are one
of them--we access markets through larger brokers. We do that
for lots of reasons that have nothing to do with fees. We would
continue to do that if the proposal went into effect, and we
might----
Chairwoman Wagner. Thank you.
Mr. Schack [continuing]. actually come off worse for it if
our pricing went up.
Chairwoman Wagner. Thank you, Mr. Schack.
The chair now recognizes the gentleman from New York, Mr.
Meeks, for 5 minutes for questioning.
Mr. Meeks. Thank you, Madam Chair.
I want to thank each of our witnesses for being here today
to discuss the SEC's equity market structure reforms.
I believe that our capital markets are the envy of the
world for a reason. They are highly liquid, efficient, and
regulated. As the industry modernizes, I believe that the duty
of the SEC is to consistently and prudently examine how the
plumbing is working in order to identify reasonable updates and
reforms. As part of that, the public comment period is
incredibly important too.
With that, last February, the SEC received a comment letter
on its equity market structure proposals from the National
Association of Securities Professionals, whose purpose is to
support increased opportunities for securities professionals of
color and fair access to investors who are traditionally--who
have traditionally been shut out of the markets.
In that letter, they say, ``Our initial concern is that the
SEC's proposals could result in a lack of access to the stock
market for underserved demographics, which could negatively
impact the ability of these individuals and communities to
build wealth and, in turn, further widen the existing diversity
gap in investing.''
First, I will turn to you, Professor Brogaard, because you
are the economist and academician. Based on your research, do
you believe that the SEC's proposal could result in a lack of
access to the stock market for underserved communities,
especially those in communities of color? Because it has shown,
some of this research, that more people in low and moderate
incomes are now investing in the stock market.
Mr. Brogaard. Thank you for that question, Congressman
Meeks.
Yes, I agree that any change that increases the cost to
investors can hurt the access to different groups, especially
groups that may not historically have been participants in the
stock market.
Mr. Meeks. So, do you have any recommendations of what you
think Congress or the SEC can do to ensure that the new rules
do not unintentionally harm minority and low-income investors
like the people in my district?
Mr. Brogaard. Yes. I think, at a high level, that the core
that makes the U.S. stock market so great and the costs so low
and it so efficient is that it is highly competitive. It takes
a couple of minutes to set up a Robinhood account and have a
zero-dollar transaction cost.
Mr. Meeks. Thank you.
Let me jump to Mr. Ramsay, because it is my understanding,
Mr. Ramsay, that there is broad support for a substantial
reduction in the access fee cap and that there is a difference
of opinion, I know, however, in whether the reduction should be
made proportionately to a reduction in tick size.
So I want to know from you, how do you see the reduction in
access fees improving the overall trading experience for
institutional and retail investors? What specific benefits do
you believe they would see from this proposal?
Then right after that, because I am trying to get
everything in, I am going to go to Mr. Kennedy.
Mr. Kennedy, I understand that Nasdaq has a different take
on the access fee debate than from Mr. Ramsay's firm, from what
I understand, but I want to hear what Mr. Ramsay says. Could
you then elaborate on that position and explain why you believe
the benefits outweigh the need for uniformity across the full
spectrum?
Mr. Ramsay first.
Mr. Ramsay. I will start first, and I suspect my colleague
may disagree with some of what I say. I appreciate the
question, Congressman.
The point of reducing the access fee, in part, is that
institutional investors in particular, when they trade on an
exchange, usually trade by seeking to access exchange quotes,
not posting them. What that means is, they bear the brunt of
the fact that exchanges charge this maximum fee now, which
amounts to, again, billions of excess dollars in what I sort of
called a toll free.
The idea that you should only reduce the access fee for
certain stocks, more liquid stocks, we believe does not have
much basis. It also creates an odd circumstance where you would
basically be saying participants----
Mr. Meeks. I do not want to cut you off----
Mr. Ramsay. Yes.
Mr. Meeks [continuing]. but I have to give some time to Mr.
Kennedy.
So, Mr. Kennedy, you heard what he said right there. Go
real quick.
Mr. Kennedy. I look at two stocks, Congressman. I look at a
stock like Regeneron, a great Nasdaq-listed company in your
district, where it is $1,000. I do not need to reduce the
access fee cap there, because I want to reinvest the access fee
cap into the NBBO.
Your colleague said, the bid-ask spread matters. I want to
take that money, keep the access fee cap, maybe even, in a
stock like Regeneron, $1,000, maybe even increase it, and then
use it in stocks like Paychex, where I can maybe lower the
access fee cap.
I just want to do it intelligently.
Mr. Meeks. Thank you.
I yield back.
Chairwoman Wagner. Thank you.
The chair now recognizes the gentleman from Oklahoma, Mr.
Lucas, for 5 minutes.
Mr. Lucas. Thank you, Madam Chair.
At the end of December 2022, the SEC released four
significant revisions in the U.S. equity market structure.
While introduced as a package, each rule was only considered in
a vacuum, absent of meaningful feedback from market
participants and sufficient analysis.
One proposal with deeply flawed cost-benefit analysis is
the best execution rule, which would create an additional best
execution standard on top of existing rules.
Mr. Rubenstein, could you discuss why the SEC is proposing
a best execution rule while FINRA and the MSRB each have rules
already in effect?
Mr. Rubenstein. Thank you, Congressman.
I do not know why they are doing that because the best
execution rules and best execution has been something that has
been part of the fabric of the markets for a very long time,
and it is FINRA and MSRB's responsibility to enforce that. If
there were issues there, the SEC could handle that by their
oversight of those institutions, rather than introducing
potentially overlapping and confusing rules that will just
cause a lot of costs for the industry that might get passed on
to consumers.
Mr. Lucas. Continuing with you, sir, if the Commission did
reasonably identify an issue with the current best execution
framework, could you explain how the SEC could go about
addressing that?
Mr. Rubenstein. Well, they could--oh, sorry, sir. Yes, they
would address that directly with the Self-Regulatory
Organizations (SROs) and FINRA and those policies, making sure
that they were appropriate and enforced.
Mr. Lucas. Professor Brogaard, could you also share your
perspective on the SEC's justification of the new best
execution rule and how a new standard compares to what we have
already?
Mr. Brogaard. Yes, of course, Congressman.
We have the FINRA and the MSRB standard. They have been
around for decades. There have been cases brought, in my
understanding, by FINRA, by the SEC, to enforce them. I am
unaware of widespread concerns about any gaps in the existing
best ex rules.
The SEC, to my understanding, does not currently have a
best ex rule, and my reading of the proposal was this was their
attempt to get one on the books.
Mr. Lucas. The SEC has so far been uninterested in robust
engagement with market participants and has not provided a
forum for stakeholders to provide feedback that these
substantial market structure changes should require.
Nasdaq, along with a diverse set of market participants,
has been outlining concerns with the market structure
proposals, but the SEC has yet to change course.
Mr. Kennedy, could you explain why it is important for the
SEC to consider these proposals and what is at stake for retail
investors if they do not?
Mr. Kennedy. I am going to answer the second part of your
question first----
Mr. Lucas. Please.
Mr. Kennedy [continuing]. which is, what is at stake? What
is at stake is widening spreads. Widening spreads--if they do
not do these--if they do not move incrementally and look at the
data and understand exactly what they have done, how can you go
back and see what worked and what did not work?
The key--paramount to us is the NBBO, because I think every
person, in their opening statement, referred to the ``greatest
markets in the world,'' they referred to the spread. Spreads
will widen if we break something on the NBBO and that will harm
investors, because they might--they will pay more. They reach
out and pay the offer, and they sell it to bid.
Mr. Lucas. Mr. Rubenstein, in 2005, the SEC conducted a 2-
day roundtable with seven panels prior to implementing the
Regulation NMS.
How does the SEC's public engagement compare to the SEC's
engagement enacting Regulation NMS in 2005?
Mr. Rubenstein. Thank you----
Mr. Lucas. What we have now compared to the way it was done
in 2005.
Mr. Rubenstein. Sure. Thank you, Congressman.
It does not--it barely compares. Our markets are the envy
of the world because of a process that is data-driven, that is
done in a very purposeful manner. Taking all these proposals
together and implementing them together is irresponsible and
even the way they were composed. You compose them by talking to
stakeholders, identifying a problem, and then proposing a few
solutions, whittling them down, and then having a rule, not
having a rule and then having people debate it after you have
already written the rule.
Mr. Lucas. Yes.
Madam Chair, I yield back the balance of my time.
Chairwoman Wagner. The gentleman yields back.
The chair now recognizes the distinguished ranking member,
Mr. Sherman, for 5 minutes for questions.
Mr. Sherman. Mr.----
Chairwoman Wagner. Oh, and--excuse me, Mr. Sherman--Mr.
Kennedy, could you move your mic closer to you?
Thank you. We want to hear all your brilliant--up a little
bit--all your brilliance. Thank you.
Mr. Sherman. Mr. Kennedy, I alluded in my opening statement
to the situation where an exchange can have a technical glitch
and investors can lose tens of millions and hundreds of
millions of dollars. It happened with the Facebook offering
over a decade ago.
I would like to understand how customers are made whole for
the losses that they suffer when you have this glitch. Could
you describe how the exchanges contribute to paying those
investors when the glitch occurs under the current rules?
Mr. Kennedy. Absolutely.
First, what we do--nothing is more important to us than the
resiliency of the markets. I think we all try not to take it
for granted, but we at Nasdaq and our fellow exchanges that I
am representing today invest constantly in their resiliency,
24/7, teams working around the clock.
With that said, Congressman, things happen and we
understand that those things happen. We have a very transparent
rules set where we are able, through the SEC, to give back what
we call ``accommodations'' when we are at fault to the best
that we can. We also file----
Mr. Sherman. If I can interrupt, you do have a quarter-
million-dollar limit on your liability that was created by the
exchanges themselves.
I can understand why you could not have unlimited
liability; you might go bankrupt. That would be terrible for
the entire country. It occurs to me that you should be able to
get insurance that would cover more than a quarter-million.
When I say a quarter-million, that is not a quarter-million per
investor; that is a quarter-million dollars for everybody who
bought Facebook.
Could you get insurance that would allow you to have some
limit that would be much higher than a quarter-million dollars
for the whole country?
Mr. Kennedy. I would have to get that answer from my team,
my legal team. I just do not know, and I do not want to
suppose.
As you know, the markets are extremely intertwined, which
is why we are here today to talk about the interconnectivity of
the----
Mr. Sherman. I do want to move on----
Mr. Kennedy. Okay.
Mr. Sherman [continuing]. to another question.
Broker-dealers registered with the SEC and FINRA undergo
examinations by both agencies, although FINRA's are more
frequent. Presumably, if this best execution were adopted, SEC
examiners would review broker-dealers for compliance with the
SEC's Best Execution Regulation, while FINRA examiners would be
reviewing for FINRA Rule 5310 covering the same material.
Professor Brogaard, would broker-dealers be required to
have separate compliance programs to meet these two different
best execution obligations?
Mr. Brogaard. Thank you for that question, Ranking Member
Sherman.
I am not a compliance expert. I would--the SEC's best
execution rules seem to be stricter than FINRA's. It is unclear
how the two organizations would deal with that conflict, given
that FINRA is an SRO and SEC is a government regulator.
Mr. Sherman. Should FINRA simply repeal their regulation
and say, as long as you live with the SEC regulation, you are
fine with us or should we have two separate regulations in that
area?
Mr. Brogaard. I would think it would make more sense to
have one uniform regulation.
Mr. Sherman. Mr. Ramsay, we have seen the Supreme Court
decision that creates a big Federal jury case about every SEC
enforcement effort. What effect is that going to have on the
ability for us to rely on our capital markets being the envy of
the world?
I realize you have not had time to read the decision on----
Mr. Ramsay. I have not. I mean, I am certain I am not
enough of a legal expert to give you a definitive answer.
I would say that certainly the SEC has relied on
Administrative Law Judges (ALJs) for a lot of cases now. I
think they have increasingly been relying on the courts. I am
sure there are cases where it would make their job more
difficult and increase the burden of catching wrongdoing, but,
beyond that, it is hard for me to tell you how much of an
impact it would have.
Mr. Sherman. How would allowing trading in sub-penny
increments benefit retail investors in pension funds?
Mr. Ramsay. Yes, I think that is very critical and I note
that several of my colleagues, even though they said that they
were concerned about not moving ahead, suggested that moving
ahead to half-cent ticks could be helpful.
The important thing is that it means that prices can then
trade where people want to trade and that means that the bid
offer spread, which is so important because it defines every
other pricing metric that people use in the market--it means
that those prices more accurately reflect the prices that
investors can then get. So it is basically more money in the
pockets of investors because the prices that define what they
can actually achieve are better.
Mr. Sherman. Thank you.
Chairwoman Wagner. The gentleman's time has expired.
The chair now recognizes the gentleman from Texas, Mr.
Sessions, for 5 minutes.
Mr. Sessions. Madam Chairman, thank you very much.
Mr. Rubenstein, I am going to push my remarks to you, so I
wanted to give you a heads-up.
Our young chairwoman, when she began, talked about wanting
to talk about market retail investors facing problems. One of
those is directly what this hearing is centered on, and that is
regarding tick sizes.
GTS, Global Trading Systems, has a letter to the SEC;
advocates for studying data and processing incrementally, with
a proposal, as data is collected rather than relying on a
theory.
We sent--many of us on this committee and subcommittee sent
a letter to the SEC that is probably dated perhaps yesterday,
perhaps today. Page 2 of that letter said: If adopted--
referring to the proposal that the SEC has--in its current
form, would induce significant and unwarranted complexity in
today's efficient market structure that could increase
operational risk and create investor confusion, undermining our
constituents' confidence and ability to participate in equity
markets. It also would limit investors' opportunities for price
improvement by mandating the trading increment at which stocks
trade.
My real question to you is, what more do we need to say to
the SEC? It seems like the market-based people have provided
their feedback. It seems like we as Members of Congress have
provided this.
We are here asking you, and our chairman did, how can we
make sure that the retail investors facing problems have fewer
of these problems? What more do we need to do with the SEC?
Because we struggle with them.
Mr. Rubenstein. Thank you, Congressman. I would agree. The
retail investor experience has never been better. A lot of the
folks up here have echoed the same. Let us go back to the last
time the SEC was messing with tick sizes. They wanted to widen
ticks 10 years ago. Now they want to narrow the ticks, and then
10 years ago, there were folks who thought that was not a good
idea, folks who thought that was a good idea. They were trying
to increase the amount of liquidity that is visible at every
price point, so let us see what happened.
They had a pilot, which was great, a nice slow experiment
with the markets. They analyzed the data and turned out they
were wrong. It actually made trading worse and it cost the
industry a fortune to comply with the rule, and they actually
figured out that, like, retail investors, like, lost money
because of the pilot, which might or might be a good idea
because they were trying to see if there was a better way. So,
if we are going to mess with tick sizes again, we need to
really identify what the problem is, what are we trying to
resolve, and then be more prescriptive with the solution and
certainly do it in a careful way that we can analyze data
after.
Mr. Sessions. I find that, when the SEC and perhaps others
in government agencies get involved, it adds cost, time,
complexity, and money. This is what I think is a big part of
the retail investor problem, complexity, rules, regulations,
timing, who sends what to who when. These are all things which
I think our chairman and these committee members are concerned
about. We do not want to make it simple. We want to make it
straightforward. Does anybody else on this panel have any ideas
about that? Because we are struggling with this SEC--no?
Okay. Well, Mr. Rubenstein, I have passed to your team
today some questions that are directly related to this issue,
to the issue of working with and understanding not just
government, but the procedures, and I wanted you to be aware,
probably when you get back to the office, you are going to find
out somebody is saying, ``Can you please help us out with some
of these issues,'' because we think you are positioned in a way
to see things from a perspective, and I appreciate your
response here. Teams indicate they will respond, but I
appreciate that, and I want to thank you for being here today.
Madam Chairman, I yield back my time.
Chairwoman Wagner. Gentleman from Texas yields back. The
chair appreciates being referenced by the gentleman from Texas
as young and the chair now is happy to recognize the gentleman
from Georgia, our birthday boy, Mr. Scott, for 5 minutes.
Mr. Scott. Thank you, Chairlady Wagner, and let me
compliment you. This is an extraordinarily important hearing.
Our high technology and artificial intelligence is moving at
warp speed, and nowhere greater do we need to examine this as
in terms of wealth building in our investors. So I wanted to
discuss this Rule 605.
Today let me address this to you, Mr. Ramsay. We are moving
at warp speed, but, back in 2002, the number of available
trading venues included only nine registered exchanges, and
today, just 22 years later, we got 16 exchanges, 33 automated
trading systems, and more than 220 other venues where orders
can be executed. This is showing just how fast our equity
markets are evolving, but we are not keeping at it.
So I want to talk about this Rule 605, see how we can
quality examine these executions. What is the likelihood, Mr.
Ramsay, that retail investors will take the time and, first of
all, even understand and review and take actions on this data
provided in the reports with these recent changes?
Mr. Ramsay. I appreciate the question, Congressman Scott,
and I would like to make a point about Rule 605, because I
think there is a misperception about that. Rule 605 was never
designed for the purpose of generating data that would then
determine whether any other market structure changes need to be
made. As you rightly point out, retail investors are not going
to be reading those reports. It is unlikely that many would be
reading them. They will be relying on other people and
intermediaries to read the report and make comparisons among
different brokers; appropriate that they do that.
In terms of do we not need to look at 605 reports and wait
for 5 more years to figure out whether we reduce tick size or
we reduce access fees or do the other things that I have
mentioned, we have all respectfully, Congressman, we have all
the data we need to make those decisions. These were issues
when I was at the commission that were actively talked about
and researched, and that has been over 10 years ago. At some
point this argument that we have to have more study and data
just sounds like code for do not make any changes that are
likely to disrupt my business. While I understand that
sentiment, it does not seem like a good regulatory policy.
Mr. Scott. Mr. Ramsay, I am really fascinated with this
rapidly growing impact of artificial intelligence. So, Mr.
Ramsay, what do you see as the biggest influences on the
electronic trading landscape right now and just how is this
adoption of artificial intelligence now impacting our equity
markets?
Mr. Ramsay. Thank you, Congressman. Obviously, artificial
intelligence is affecting all kinds of different areas of our
economy now. I would tell you I am not an expert on AI. From
the people who know a lot more than I do that I have talked to,
it seems like it is being used in some ways, generally minor
ways, experimental ways in aspects of trading today. It does
not seem that it has taken over trading, but I do think that
there are legitimate concerns about how AI is used, that it is
managed appropriately, and I think regulators need to be
attuned to that.
Mr. Scott. Yes, because if we are not careful, we are going
to become the servants of the machine artificial intelligence
that was created to serve us. We got to be careful about this,
particularly when it comes to handling finance and equity
building.
Thank you, Ms. Chairman.
Chairwoman Wagner. Gentleman yields back, and the chair now
recognizes the gentleman from Michigan, Mr. Huizenga, who is
also the chair of the Subcommittee on Oversight and
Investigations for 5 minutes for questions.
Mr. Huizenga. Thank you, Madam Chair.
I appreciate it. I am going to start just with a thank you,
Mr. Rubenstein. Your op-ed that you wrote about the impact--the
potential impact of a China invasion of Taiwan, and you
highlighted a number of potential catastrophic things that
might happen. I just want to encourage all of my committee
members to take a look at that, and if we have time, I would
love to revisit that.
I want to talk to you a little bit about the SEC. Courts
have weighed in, again, a couple of times. They continue to get
hammered for the decisions that they are making, and it just
seems to me that we are back in this hamster wheel of
decisionmaking coming out of the SEC, and I want to talk a
little bit about the auction process. The information about
unexecuted retail orders, including information about the
security side, the order side by sell or sell short, price
originating broker via auction announcements that those firms
are free to trade in front of or against. Do you agree that
this auction process would essentially make all retail orders,
quote/unquote, flash orders, which is something the SEC
proposed banning in 2009?
Mr. Rubenstein. Thank you, Congressman. I would agree that
there would be disclosure of information that markets and
investors are not used to navigating and the effects could be
deleterious, certainly for the retail investor.
Mr. Huizenga. Do you think it would be good for investors?
I mean, this is something that, again, the SEC was kicking
around banning in 2009.
Mr. Rubenstein. It would not be good for investors.
Mr. Huizenga. I seem to recall that I think that is one of
the major tenants of the SEC is to investor protection, I
think. I might have to go back and check my notes on that one,
but I would encourage them to go back and check their notes on
that and their constitutional lane that they have to actually
operate in, because the courts have been slapping them down on
a regular basis.
Professor Brogaard, as you know, payment for order flow
information is publicly available and is subject to scrutiny by
FINRA and the SEC. If there were glaring cases of misconduct or
examples of market participants ignoring best execution
obligations, then presumably we would have seen enforcement
actions on that front, correct? My understanding is that is not
the case.
Mr. Brogaard. That is correct. The payment for order flow
information is currently required to be disclosed, and I could
not tell you of an instance where there has been an action
based off the order flow.
Mr. Huizenga. Okay. Is there any academic research to say
that payment for order flow--order flow is hurting or is not
hurting the average retail investor?
Mr. Brogaard. There is a reasonable amount of research on
payment order flow, and I would say the overwhelming consensus
is it is positive to at worst neutral for the investor.
Mr. Huizenga. Sounds like protecting the investor again.
All right. Would you explain why certain research demonstrates
the current process where wholesalers pay broker dealers for
trade actually may help those investors.
Mr. Brogaard. I will try to do that in a minute and 30
seconds.
Mr. Huizenga. Or less since I have one more question, but
go ahead.
Mr. Brogaard. Okay. Yes. I think it is specialization.
Wholesalers are experts at what they do, and what they do is
take retail orders and search for the best available price
along with other characteristics that are important to retail
investors and help brokers execute those trades.
Mr. Huizenga. Okay. Well done on that, by the way.
Mr. Kennedy, my colleagues have brought up tick size and
talked a little bit about that. The SEC's proposal estimated
over half of NMS securities are tick constrained. I would love
for you to expound on what exactly--what in the hell is a tick
constraint? Then by contrast, Cboe concluded that 67 symbols
out of their 10,125 securities actually were tick constrained,
whatever that might mean, so take a few moments and illuminate
us, please.
Mr. Kennedy. In 39 seconds, what I will do is I will tell
you tick constrained is no place left for price improvements.
So 8 cents bid offered at 9 cents; so where do you trade? This
is why we support some evolution there. Back to what the Cboe
does, I cannot really speak to that, but I think the important
thing to do is, if they think there are 67 tick-constrained
stocks and the SEC thinks there are thousands, this is exactly
why we need more public disclosure and more comments to get to
why we are here today.
Mr. Huizenga. Nasdaq's comment letter also notes that the
Commission's own analysis of the tick size pilot does not
support the conclusions drawn in the proposal. So my time is
up, but it seems to me we need uniform definitions and
determination to move ahead, and that is not what is happening.
With that, I yield back.
Chairwoman Wagner. Gentleman yields back.
The chair now recognizes the gentleman from California, Mr.
Vargas, for 5 minutes for questions.
Mr. Vargas. Thank you very much, Madam Chair and Ranking
Member. I think the hearing today has been excellent as it was
yesterday when we talked about the stress test the Federal
Reserve (Fed) gives. One of the issues there was, how much
should they disclose and what they did not disclose of the
stress test and whether, after they take the stress test these
banks, whether they then should disclose what the test was. I
am not sure about the first part. I think there was lots of
disagreement, but the second part certainly you ought to be
able to see the stress test.
Here, Mr. Kennedy, you just talked about data, too, and you
should have more information. I agree with that. I mean, I do
agree. So this part of the data I think is important for me. A
couple of you have had the chance today to talk about free
trades; the trades are free. No one took the bait. Said trades
are inexpensive. Are they free? Anyone like to comment on that?
Mr. Kennedy, go ahead.
Mr. Kennedy. I did not know if you were asking someone.
Mr. Vargas. I can ask--it is to anybody.
Mr. Kennedy. Commissions are free. I would not say trades
are free. I would answer the question commissions are free.
Again, going back to the real cost, and I think the ranking
member brought this up, it spreads. It is all about spreads and
the more that you lower the access fee cap, the less the
exchanges have to put back into the spread. So what will happen
is the access fee cap will drop. We will not have the same
resources to supply rebates and economic incentives to market
makers, and spreads will widen, and that will be the real cost
to investors.
Mr. Vargas. There is the cost. That is the part I think
that is important. There is a cost, right? Am I wrong about
that? There is a cost to investors. Would anyone disagree with
that? No? I am sorry, go ahead.
Mr. Ramsay. Specifically, Congressman, with respect to the
access fees, I would say that there are--that the argument that
exchanges need these access fees in order to pay out rebates is
sort of conjecture, but the point is that firms like Vanguard
Capital Group and Vesco, JP Morgan, XTX, et cetera, who have
all argued for a uniform significant reduction in the access
fee. It is not that they do not understand the arguments that
are made about liquidity; They just do not believe them. So--
and those are people that are unconflicted, because the only
people that they really care about are ultimately their
beneficial owners and whether the markets work well for them.
Mr. Vargas. Okay. Another issue that came up was very
interesting. None of you took the bait when it came to the SEC
itself. In fact, you went out of your way to say, ``Oh, they
are hardworking public servants; they are great people.'' I
believe that too. So why have you not had the ability to work
closer with them on these changes? Because I do understand.
Like yesterday, I mean, I think we have an excellent panel here
who seems very reasonable to me. Why has that not been the case
or can that be the case?
Mr. Kennedy, you shake your head the most. Why don't we go
to you, sir.
Mr. Kennedy. We can. We absolutely can. That is what we
want to happen. We have been public on every single part of
this. This is a large endeavor, and we want to walk through it
with them. They are exceptional, but we want to do it
incrementally.
Mr. Vargas. Okay. The reason I say this, I do think, and it
might have been actually Mr. Kennedy yourself who noticed how
more and more we are getting more and more efficient, better,
more people coming to the market. I think it is a very good
thing from a public policy perspective because when people
retire now, unfortunately, do not have the retirement that they
used to have, the pensions in the same way; now instead they
rely on the market. So we should have the most efficient market
possible for them. The companies do not do this. So more and
more it is the market. So I think this is important. I
appreciate that. I wish that we could get you guys together.
Lastly, I do have to ask this, because I ask every panel,
how many of you believe in climate change? Okay. I appreciate
that. When I started 10 years ago, two people would. It depends
on who called people up. Now it is pretty unanimous.
With that, Madam Chair, again, I hope that the SEC can get
together, and I do think that they may be moving a little bit
too fast. See if you cannot get to some agreements. Some more
information I think would be important as we heard yesterday.
Again, this has been a very good hearing. With that I yield
back. Thank you, Madam Chair.
Chairwoman Wagner. Gentleman yields back.
The chair now recognizes the gentleman from Arkansas, Mr.
Hill, who is the chair of the subcommittee on Digital Assets
and Financial Technology for 5 minutes.
Mr. Hill. Thank you, Chair Wagner. Appreciate the
opportunity to participate in this panel.
Thank all of you for lending your expertise on what is a
very important topic, but a very complex one if you are out
there trying to follow this conversation. Because it is
complicated, it could lead to uncertainty depending on how
these rules are implemented and if they are implemented all at
one time, which is why I have said from the very beginning we
should get the Rule 605 data about equity market structure
first, get it thoroughly vetted, make sure we have consensus
around that, because it is the first time since 2000, so 24
years, that we have a new primary tool for measuring the
quality of order executions across the market.
Think how complex the markets are today in terms of venue
of order execution than they were back in 2000. So this data is
critical, I think, to the Commission making a sensible
decision. I share Commissioner Peirce's concerns that the rule
not only affects the baseline proposed rules but also the data.
So I think we need to start first by looking at the data. I
think it is negligent, really, to go forward with all four
rules simultaneously being implemented without that kind of
clarity around the data. We have waited 24 years for an
improvement in this tool, and we have it, so let us use it.
Therefore, I think these rules are very much the cart before
the horse.
Congressman Foster of Illinois, my friend on the other side
of the aisle, and I share that view, and we wrote the
commissioner--the Commission Chairman Gensler last September,
16 Democrats, 16 Republicans, saying let us get a handle on the
data, report it, check the transparency, look at how these
markets structure reforms would interact with each other before
we move forward. I was pleased to sign Chairman Wagner's letter
with the same point.
First, let me ask each of you this question. Do you think
the Commission should prioritize updating and leveraging the
best available 605 data plus getting thorough input from market
participants before moving forward with these market structure
reform proposals? Let us start, Professor, with you. Just yes
or no, should they get the data from 605 and vet it and have
input from the public thoroughly before these are implemented?
Yes or no?
Mr. Brogaard. Yes to both.
Mr. Hill. Sir?
Mr. Kennedy. Yes. Yes.
Mr. Rubenstein. Yes to both.
Mr. Schack. Sorry, I will give you a more complicated
answer. I do not think that's necessary for tick size reform. I
also think the other two order competition rule and best ex
should not go forward anyway because----
Mr. Hill. That is fine. We take complicated answers. That
is okay.
Mr. Ramsay. Congressman, as I indicated, I do not think 605
data is needed to make intelligent decisions about tick size
and access fees and the other aspects of the Reg NMS reform.
Mr. Hill. We have some distinctions there, some nuance. I
think that is helpful. What do you think, Mr. Ramsay, about do
we--I do not hear any consensus, for example, that payment for
order flow or the elimination of it is good for retail
investors. You are arguing apparently it is.
Mr. Ramsay. Respectfully, Congressman, I have not offered a
view about payment for order flow.
Mr. Hill. It is one of the proposals here. We are either
for the proposals, or we are not. Are you for that one going
forward?
Mr. Ramsay. Congressman, I am specifically speaking to the
Reg NMS proposals. I think that payment for order flow remains
controversial. I think the regulators have been clear that it
can create conflicts of interest.
Mr. Hill. Yep.
Mr. Ramsay. That people need to be attentive to that.
Mr. Hill. I think that people are attentive to that. I
think that is what the rules are about. That is what FINRA'S
job is. That is what the SEC's job is in my opinion.
Mr. Kennedy, would retail investors at the margin be hurt
by the removal--and I am not an advocate here. I am just asking
questions. I am doing my oversight job. Would retail investors
at the margin be hurt by removal of payment for order flow?
Mr. Kennedy. I would be loath to say that we should change
something right now, because, as we have discussed for the last
hour or so, things are extremely complicated.
Mr. Hill. Right. We have determined this is complicated. We
do not have all the data, although some would acknowledge the
data is not necessary for a couple of the rules--I will accept
that point of view--and that they do interact with each other,
and they all affect retail investors, and we are taking a
Silicon Valley view here over at the SEC. Let us move fast and
break stuff. That is not what we do at the SEC or FINRA. We are
not running a hedge fund over at SEC. We are protecting
investors and having orderly markets. I think these are in the
wrong direction.
I yield back.
Chairwoman Wagner. Gentleman yields back.
I am tempted to gavel at that point, sir, but we will
continue on briefly here. Remember the time.
The gentleman from Illinois, Mr. Casten, is recognized for
5 minutes.
Mr. Casten. Thank you, Madam Chair.
Thanks to all the witnesses. I appreciate that you all are
not intimidated by sitting before this committee, because
Hollywood came here years ago and looked at the charm and
beauty and intellectual giants on this committee, and charisma,
and said, ``We should make a movie about you all,'' and that,
of course, became ``Dumb Money'' and the story about Roaring
Kitty and payment for flow. We are normal people, in spite of
all our celebrity. Partly just makes me laugh. I watched that
trailer and thought, holy smokes, that was the hearing we had.
I want to dig into this payment for order flow issue, and I
want to focus on you, Mr. Schack, because I think you said in
an interview recently that, under payment of order flow,
brokers face a choice, rebates for themselves or price
improvement for their customers, and it is obvious what is in
the customer's best interest.
Mr. Rubenstein I think had suggested earlier, and I do not
want to misquote you, that these rules essentially are already
in law, and this is redundant with existing rules, but my
understanding is that the current rules require you to disclose
either when you open an account or if a customer requests that
you have a Payment for Order Flow (PFOF) agreement but does not
actually require you to disclose whether that is a best
execution. Do you want to just elaborate on how, Mr. Schack,
how the new rules differ from the existing standard to clarify
that point?
Mr. Schack. I am not sure I completely understand what you
mean by the new rules regarding payment for order flow, sir. I
am sorry.
Mr. Casten. So the new proposed rules, my understanding is
that those do not just require you to disclose that you have a
PFOF agreement but also have to document how that is consistent
with the best ex obligation.
Mr. Schack. Yes, I believe it is regulation best execution
that would require brokers to accept payment for order flow to
jump through additional hoops when they are executing order
subject to that payment.
Mr. Casten. So, in Mr. Huizenga's exchange with Mr.
Brogaard when he said there has been no enforcement actions of
violation, the only rule that people could have violated is if
they failed to disclose that they had an agreement, not that
they failed to disclose that they were actually meeting best
execution, correct?
Mr. Schack. I am not expert enough on how that rule has
been or could be enforced to give you a definitive answer to
that question. I know there have been many enforcement actions
brought throughout the years on retail execution. Whether they
pertain to payment for order flow or not, I am sorry, I do not
have that at my fingertips.
Mr. Casten. Okay. Well, I mean, I ask this because when we
were having those hearings about Game Stop and Roaring Kitty
and all the rest of that, we had Robinhood in here, and
Robinhood told us that 100 percent of their options trades were
routed to brokers that they had PFOF agreements with, and they
were not in violation of those rules because they disclosed
that they had the agreement, but I have never quite understood
how that--how the failure to send any trade to anybody you do
not have a PFOF agreement with can ever satisfy that you knew
that was the best execution. Would you agree with that?
Mr. Schack. Yes. I mean, I think the existence of payment
for order flow in and of itself is not evidence of not
achieving best execution, I think as some of the other
witnesses have said. First of all, what I would say is that not
every broker accepts payment for order flow. I happen to be a
customer of one of those brokers, so I do not trade very often,
but when I do, my broker does not receive payment for order
flow.
The other thing I would say is that, even if there is
payment for order flow involved, the wholesalers that make
those payments to the brokers usually provide a better price
than the quoted bid ask spread sometimes significantly so. Is
it a perfect system? I do not know. Could things be better?
Sure. I am willing to explore that always, but I just do not
think there is enough evidence out there that end investors or
end users in the markets are being harmed by this enough to
justify a wholesale rewriting of the market structure.
Mr. Casten. Okay. When you say ``usually,'' I am certainly
not suggesting that all PFOF is bad, but the new best ex rules
would simply require that you demonstrate why in this
particular case that was an advantage, right?
Mr. Schack. It is my understanding and particularly from
talking to other market participants--we do not handle retail
orders, but in talking to those who do, I am under the
impression that some of those brokers would have to
substantially change their business models. Right now retail
brokers essentially use wholesalers as an easy button. They
outsource execution. They would have to take on board a lot of
those capabilities, which are quite expensive to maintain, and
requiring them to do that could have, as I talked about in my
written testimony, my oral testimony, unintended consequences
that may differ from the way people think they are going to
work out.
Mr. Casten. Okay. Okay. I am about out of time. I Yield
back. Thank you.
Chairwoman Wagner. Gentleman yields back.
Chair recognizes the gentleman from Wisconsin, Mr. Steil,
for 5 minutes.
Mr. Steil. Thank you very much, Ms. Chair.
Mr. Kennedy, I am going to start with you. I am going to
actually follow up to where the previous conversation was
because I think the--a lot of retail investors benefit from the
market structure in place today. Low, no efficient trades and
quality execution become standard across platforms. For me, it
is a little bit hard to see a case for the sweeping disruptive
regulatory overhaul that can harm retail investors.
In Nasdaq's comment letter to the SEC, it included the
following quote: In certain cases, such as access fee caps,
tick sizes, and order competition, specific means that the SEC
proposes to achieve its objectives need to be recalibrated to
avoid collateral harm to markets and to investors. Briefly, can
you just explain what that collateral damage is.
Mr. Kennedy. Yes. Thank you. One of the things that is,
again, just paramount to the way we looked at all of these
changes are what will it do to the MBBO, because I think we
have all agreed the spread is the cost. It is not the zero
commission. It is not--it is the spread. If the spread changes,
that is where the cost to investors are. We have incredible
momentum with retail investors right now. Education and the
democratization has never been better, and if we do not move
incrementally and understand the data driven approach, review
the data, get continued feedback, we will break something.
Mr. Steil. Thank you. To follow up, Professor Brogaard, if
I can, speaking of collateral harm to investors, some of the
feedback you provided in a comment letter when you weighed in
on the SEC best execution in order competition rules proposal,
you wrote, quote, the SEC's economic analysis fails to consider
the underlying reasons why the current market structure
performs as well as it does for retail investors and that the
significant likelihood that drastically altering the current
structure will result in worse, not better, execution quality.
Question. What is it about the current market structure
that benefits retail investors and how would the proposal
endanger that? If you could just comment on that very briefly.
Mr. Brogaard. Thank you for the question, Congressman
Steil. I would say that retail investors are benefiting from a
high degree of competition. They have over a dozen exchanges to
trade at, 30 plus alternative trading systems (ATSs), to trade
at. It is a highly competitive market.
Mr. Steil. Perfect. So a highly competitive market, it
makes it attractive in particular for people to list on Nasdaq
and other U.S. exchanges.
Come back to you if I can, Mr. Kennedy. It is a competitive
market, and it should not be taken for granted that the United
States will always be a world leader for listings globally. So,
in particular, having that competitive market that Professor
Brogaard just talked about, does the SEC proposal put our
competitive position at risk in your opinion?
Mr. Kennedy. In my opinion, yes, it does, because when you
make these changes that cause uncertainty, we know that
markets, A, do not like uncertainty, and B, corporate issuers,
we deal with in and out every day, they want a stable price to
be able to raise capital in their own issues.
Mr. Steil. I think that is a really important point here as
we look at global competitiveness. The concerns that the SEC
would put us at a global disadvantage or not allow us to
maintain our market leading position is something that this
committee should spend time thinking about.
I want to shift gears pretty significantly here, if I can
with you, Mr. Rubenstein. Talking about the geopolitical risk
to our markets. You wrote a really interesting op-ed in May
titled ``Are the Markets Ready if China Invades Taiwan.'' I
thought it was a quite interesting article. In the piece, you
talked about the risk to our markets posed by Chinese
aggression toward Taiwan. You looked at what companies and
investors can do to minimize their exposure to such a risk. You
noted that the Federal Government may need to act. Can you in
particular lay out what you think the Federal Government should
be doing to enhance market resilience in a dangerous
geopolitical world?
Mr. Rubenstein. Thank you, Congressman. The topic today is
problems and solutions, and on the morning that Russia invaded
Ukraine, we were responsible for opening a third of the New
York Stock Exchange and tens of thousands of securities, and
what was confusing to us is we did not know if we could trade
some of these securities. The interconnectedness of the
markets, a lot of these securities are part of exchange-traded
fund (ETFs) now, and it was very complicated.
China and the U.S. trade together 77 times more than the
Russia and U.S. That morning the market----
Mr. Steil. Significantly more?
Mr. Rubenstein. Significantly more. So there is not a lot
of dialog between government and industry, specifically
financial industry, about where bright lines would be and how
we need to manage all that volatility. Fortunately, there is a
bill that Representatives Luetkemeyer and Torres put forward
that would put that responsibility to a Financial Stability
Oversight Council (FSOC) to create an advisory committee.
Mr. Steil. In summary, we should be looking at----
Mr. Rubenstein. We should be looking--that is far more
important than all of these rules here.
Mr. Steil. I am cognizant of the time. I am going to yield
back. Thank you
Chairwoman Wagner. Thank you.
Gentleman yields back. Chair now recognizes the gentleman
from North Carolina, Mr. Nickel, for 5 minutes.
Mr. Nickel. Thank you, Chair Wagner.
Thank you, Ranking Member Sherman. Very glad to see you as
part of the seersucker caucus today.
To our witnesses, thanks so much.
I am very concerned about Gary Gensler's proposed equity
market structure rules. They could dramatically change how the
stock market functions and jeopardize commission-free trading
that working families rely on to save for their retirement. I
am very concerned about any proposals that would increase the
cost of retirement for my constituents. I join many of my
colleagues in signing Congressman Foster and Congressman Hill's
letter to Chair Gensler expressing concern about the SEC's
approach to the equity market structure proposals.
We point out that Rule 605 requires data to be collected on
how well trades are executed, which the SEC itself has admitted
needs to be updated. However, the Commission partially relied
on this faulty data to justify its regulation best execution
proposal.
Given the recent updates to Rule 605, which I support, that
aim to enhance the data collected by broker dealers, I believe
it is imperative that the SEC refrain from making hasty
decisions until the new data is available to assess the
necessity of their best execution rule. Our bipartisan letter
stated this, and I hope that Chair Gensler takes this
seriously.
Professor Brogaard, first question to you. Do you agree
that the SEC should reassess the conclusions about execution
quality made in the proposal to adopt regulation best execution
after it has access to the updated and expanded Rule 605 data?
Mr. Brogaard. Yes, I do.
Mr. Nickel. Mr. Brogaard, you are an expert on best
execution. Some say this new SEC proposal is necessary, and
others say it will actually lead to worse outcomes for retail
investors. Can you please briefly summarize what you found in
your study about whether the proposed rules necessary and would
be a net positive or net negative for retail investors?
Mr. Brogaard. Yes, of course. The sum takeaway is, based on
my analysis, it would be a net negative for investors. The
high-level reasons for that are that, right now, we have
wholesalers who are highly efficient and compete against each
other to take retail orders and route them to the best
execution, and with the new best execution proposal, the
ability for brokers to rely on wholesalers is called into
question.
Mr. Nickel. Thanks. We are heading off to votes here, so
last question to you, Mr. Rubenstein. We had a national
security subcommittee hearing earlier today in this room on
competition with China as we consider both the incredible
strength of our capital markets and the ever changing global
challenges they face. What do you believe is the number one
threat to our capital markets today and what changes or reforms
do you recommend to enhance market resiliency and address these
challenges?
Mr. Rubenstein. Thank you, Congressman. Well, we certainly
should not do anything that would harm the markets and
implement a lot of proposals--experimental proposals all at
once. That has been a big topic, but separately there needs to
be a lot of dialog between government and people in the markets
responsible for the markets on how we would react to big
geopolitical events like what we talked about, if there was an
invasion of Taiwan and the markets moved very, very
precipitously, and that dialog has not been happening. I hope
it starts happening so that we can all be prepared and make
sure that the impacts are as muted as possible.
Mr. Nickel. Thanks. Madam Chair--Mr. Chair, in the interest
of having everyone make it back for votes, I yield back.
Mr. Meuser [presiding]. Appreciate that. Gentleman yields.
I now recognize myself for 5 minutes. Thank you all very
much for being here this afternoon.
Mr. Kennedy. Yes, Mr. Chairman.
Mr. Meuser. The SEC under its current leadership, many,
many, many believe prioritizes ideological goals over industry
informed regulations that truly serve the needs of investors
and other stakeholders in financial markets. It seems to make
sense for U.S. regulatory framework that would align with
realities of modern finance and not hinder our Nation's ability
to innovate and lead. That is why comment periods are essential
to hear feedback from the public and to be more informed about
our markets.
The SEC rules we are examining rather than fortify our
markets appear to undermine them by producing complexities
before gathering the relevant market data. This committee has
emphasized again and again and again how short comment periods
and rapid rulemaking do, in fact, push activities off our
exchanges or unnecessarily constrained market dynamics.
So, Mr. Kennedy, in December, I wrote a letter along with
other Republicans on the subcommittee opposing the SEC's
volume-based pricing prohibition rule. The SEC claimed this
rule would somehow encourage competition on the exchange. I
cannot follow that logic. Do you think this would happen, or
would the rule minimize competition forcing activity off the
exchanges?
Mr. Kennedy. Banning volumes here, which are ubiquitous in
our economy, is counter intuitive to me. I do not get it. It
will not help our markets in any way, shape, or form. Mr.
Schack has already addressed in his comments how mid-tier
brokers, small brokers, benefit from the complete services that
are offered from volume tiers. It is not just pricing. It has
never been about pricing. I think what you will see is, if
volume tiers were to dissipate, the cost would just go up for
investors, again, widening the MBBO.
Mr. Meuser. Perhaps particularly on U.S. exchanges in
competition on the international basis. Would you agree?
Mr. Kennedy. Yes, I agree.
Mr. Meuser. Okay. So, Professor Brogaard, yesterday I led a
letter to the SEC urging the withdrawal and reproposing of the
tick size rule. We did discuss much of this earlier. Tick size
below a penny for volume constraint stocks. If you can
elaborate a little bit more, why is this important for this
rule to be withdrawn and reproposed?
Mr. Brogaard. Yes, thank you, Congressman. The getting the
tick size right is important, because it sets a lot of how the
market dynamics play out. We have had penny tick sizes for 23
years or so. I do not think--in the academic literature,
smaller tick sizes are generally better, but there is a limit.
There is an optimal. You can have too small of a tick size,
which leads to other complications. The SEC's proposal is--
seems to be moving too fast too soon.
Mr. Meuser. Very good. Thank you. I agree.
Mr. Rubenstein, the SEC best execution rule, FINRA, already
has a best execution rule. Should the SEC, in your view, create
its own rule or should they work with FINRA to improve the
existing rule if they identified problems?
Mr. Rubenstein. They should not create their own rule. They
should work with FINRA and MSRB to help modify their existing
rules.
Mr. Meuser. Very good. Thanks.
Mr. Kennedy, does the SEC have a history of providing
adequate comment period or acknowledging the majority views of
commentators and industry stakeholders when finalizing
controversial rules?
Mr. Kennedy. They do have a history of doing that to my
knowledge. I have been in this business--this is my 38th year.
I have seen in the past, whether it was NMS or, even before
that, the original circuit breakers out of the 1987 crash, much
more comment period, much more interaction, much more
collaboration and public debate. I am not seeing it here.
Mr. Meuser. In the past. Okay. Thank you.
Finally, Mr. Brogaard, recently in another one of our SEC
oversight hearings, I asked David Burton from the Heritage
Foundation how helpful the SEC has been to capital markets. He
replied zero out of 10 because--but he added if they did focus
on the right issues, it could be a 10 out of 10. So considering
the current success of our equity markets and the drastic
improvements to retail trading, is overhauling our equity
markets' work the right issue for the SEC to be focused on?
Mr. Brogaard. I think the intent of the SEC is good, but I
think the focus is wrong. I think the retail experience right
now is the best it has ever been. It does not mean it cannot be
better, but the area for improvement to me seems to be
disclosure and information regarding Edgar, and in simplicity,
not market microstructure rules.
Mr. Meuser. Great. Thank you very much, and I yield back.
Now we will--we are going to close this hearing. We would like
to thank our witnesses very, very much for your time and
insights and overall testimony.
Without objection, all members will have 5 legislative days
within which to submit additional written questions for the
witnesses to the chair which will be forwarded to the witness
for response. I ask our witnesses to please respond as promptly
as you are able. This hearing is adjourned.
[The information referred to can be found in the appendix.]
[Whereupon, at 3:44 p.m., the subcommittee was adjourned.]
A P P E N D I X
June 27, 2024
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