SEC seeks sweeping market structure changes

The U.S. Securities and Exchange Commission (SEC) has voted to adopt sweeping changes to rules that govern equity market structure, including proposals on retail order flow, tick sizes, execution quality and insider trading.

The SEC’s proposals dealing with retail order flow would require that retail orders be exposed to competition “in fair and open auctions” before they could be executed internally. The measure is aimed at wholesalers capturing retail order flow, rather than allowing it to interact freely with other orders.

According to an SEC analysis, the current practice of internalizing the vast majority of retail order flow translates into inferior prices for retail investors that costs them an estimated US$1.5 billion annually.

“Today’s markets are not as fair and competitive as possible for individual investors — everyday retail investors. This is in part because there isn’t a level playing field among different parts of the market: wholesalers, dark pools, and lit exchanges,” said SEC chair Gary Gensler in a release.

Gensler said the SEC’s proposal aims to enhance competition for retail orders: “I think it makes sense for the market, and for everyday individual investors, to allow the broader market to compete for their orders.”

Additionally, the SEC proposed to lower the minimum “tick” size requirements, and reduce access fee caps to reflect the smaller trading increments.

Gensler said the changes would “enhance efficiency, competition, and fairness across our equity markets.”

At the same time, the SEC proposed amendments that would update post-trade transparency requirements, which aim to give traders insight into the quality of trade execution on different markets — a rule that hasn’t been revised since it was adopted in 2000.

That proposal would expand the kinds of firms that must produce monthly execution quality reports to include certain broker-dealers, expand the reporting requirements to include certain orders submitted outside of regular trading hours, and require reporting of execution quality information for fractional share orders, odd-lot orders and larger orders.

“This proposal, if adopted, would increase transparency for investors and facilitate their ability to compare brokers. That helps make our markets more efficient, competitive, and fair,” said Gensler.

Finally, the SEC proposed a new “best execution” rule that would require broker-dealers to establish policies designed to comply with a best execution standard for order routing and execution decisions. That rule would also require brokers to document that conflicted transactions complied with the best execution standard, and to detail any payment for order flow arrangements.

The various reform proposals are out for comment until March 31.

Additionally, the SEC adopted rule changes to bolster investor protection by tightening the requirements that insiders must meet before they can trade their companies’ own stock, and introducing new disclosure requirements for insider trades.

The final rules will become effective 60 days after their publication in the Federal Register.

James Langton

James is a senior reporter for Advisor.ca and its sister publication, Investment Executive. He has been reporting on regulation, securities law, industry news and more since 1994.