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Report of the Advisory Committee
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| Intl. Business Machines (IBM) | Last | Size | Market | Change | Time | Volume |
| 98.24 | 1,500 | NYSE | -2.11 | 10:18 | 2,550,500 |
| Exchange/ Market Maker | Bid | Size | Exchange/ Market Maker | Offer | Size |
| Madoff | 98.32 | 100 | NYSE | 98.35 | 100 |
These streams of market information are distributed to market data vendors and users, and the resulting net revenues are divided among the market centers (the exchanges and Nasdaq) that provide the data. The sale of market information represents a significant percentage of market center revenue. Total market information revenues were $598 million in 2000.4
1. Equity Markets
In the early 1970s, the SEC took the initial steps toward facilitating the development of a central market system in which investors would have broad access to information from all markets.5 Congress endorsed this approach when it enacted the Securities Acts Amendments of 1975 ("1975 Amendments").6 In particular, it directed the SEC to facilitate the creation of a national market system for securities, with the following paramount objectives: (1) the maintenance of stable and orderly markets; and (2) the centralization of all buying and selling interest so that each investor would have the opportunity for the best possible execution of his order, regardless of where in the system it originates.7 To achieve these objectives, Congress recognized that communication systems, particularly those designed to provide automated dissemination of last sale and quotation information, would form the heart of the national market system.8 Rather than attempt to dictate the specific elements of a national market system, however, Congress chose to rely on an approach designed to provide maximum flexibility to the SEC and the securities industry in giving specific content to the general concept of the national market system.9
Congress implemented this approach by adding Exchange Act Section 11A to the Securities Exchange Act of 1934 ("Exchange Act").10 Section 11A(a) directs the SEC to facilitate the establishment of a national market system in accordance with specific congressional findings and objectives. Among these findings were that new data processing and communications techniques created the opportunity for more efficient and effective market operations, and that the linking of all markets through such data processing and communications facilities would increase the information available to broker-dealers and investors. The objectives set forth in Section 11A(a) to guide the SEC in its oversight of the national market system were to assure: (1) economically efficient execution of securities transactions; (2) fair competition among broker-dealers, among exchange markets, and between exchange markets and markets other than exchange markets; (3) the availability to broker-dealers and investors of market information; (4) the practicability of broker-dealers executing investors' orders in the best market; and (5) an opportunity for investors' orders to be executed without the participation of a broker-dealer.
The SEC has engaged in a series of rulemaking under Section 11A to further these national market system objectives. The collection and distribution of market information in the equity markets are addressed primarily by four Exchange Act rules:
2. Options Markets
The trading of standardized options on securities exchanges began in 1973, with the Commission's registration of the Chicago Board Options Exchange ("CBOE") as a national securities exchange.22 Initially, trading was limited to call options on only sixteen underlying stocks.23 By July 1977, however, the rapid expansion in listed options trading, including trading of certain options classes on more than one exchange, led to allegations of manipulation in the market for exchange-traded options. In response, the Commission requested that the options exchanges voluntarily refrain from listing any options classes beyond those already listed as of July 15, 1977, and initiated an investigation and special study of the options markets in October 1977.24 In 1980, the Commission ended the voluntary moratorium on expansion of standardized options trading, and in 1989, adopted Exchange Act Rule 19c-5, which generally prohibits any exchange from adopting rules limiting its ability to list any stock options class because that options class is listed on another exchange.25
Today, five exchanges trade standardized options--Amex, CBOE, International Securities Exchange ("ISE"), Pacific Exchange ("PCX"), and Philadelphia Stock Exchange ("Phlx")--but practical and legal differences remain between the stock and options markets. Unlike exchange-listed equities, standardized options do not trade in the OTC market, including on alternative trading systems. Further, the options markets use different trading increments than those used by the markets trading the underlying securities. Currently, the underlying securities trade in minimum one-cent increments, while options with a premium of three dollars or less trade in increments of five cents, and options with a premium of greater than three dollars trade in ten-cent increments.
The legal differences between the two markets arise, in part, from the fact that many of the national market system initiatives embodied in Section 11A of the Exchange Act were implemented in the equity markets at a time when standardized options trading was relatively new. Thus, when the Quote Rule,26 the Transaction Reporting Rule,27 and the Display Rule28 were adopted, they did not apply to the options markets.29 This means that: (a) the options exchanges are not required by SEC rule to establish procedures for making their members' options transaction information available to information vendors; and (b) vendors and broker-dealers that distribute options information are not required by SEC rule to make available consolidated quotation or last sale information on options.
Nevertheless, the Plan for Reporting of Consolidated Options Last Sale Reports and Quotation Information ("OPRA Plan"),30 which governs the dissemination of market information relating to options, imposes consolidation requirements on OPRA Plan participants and vendors that are very similar to the requirements under the Transaction Reporting Rule, the Quote Rule, and the Display Rule.31 Consolidated quotation and transaction information in listed options is disseminated under the terms of the OPRA Plan. Furthermore, Section VII of the OPRA Plan requires the options exchanges to include provisions in their vendor agreements prohibiting vendors from: (a) distributing options data in a manner that is discriminatory or contrary to the orderly operation and regulation of the options markets; and (b) excluding reports or otherwise discriminating on the basis of the market in which a transaction or quotation took place.32
In addition, although the options markets continue to operate with limited market integration facilities, the Commission has taken several recent actions to more fully integrate the options market into the national market system.33 In particular, the Commission adopted amendments to extend most aspects of the Quote Rule to transactions in listed options.34 The amendments to the Quote Rule require the options exchanges and options market makers to publish firm quotes. In extending the Quote Rule to apply to options transactions, however, the Commission made certain accommodations to the options markets. For example, because of capacity concerns, the options exchanges can elect not to collect and make available the size associated with each quotation in listed options. Instead, each exchange may establish by rule and periodically publish the size for which its best bid and offer in each options series that is listed on the exchange is firm.35
Finally, the dissemination of market data by the options exchanges has been restricted by the "exclusivity clause" of the OPRA Plan. The "exclusivity clause" in the OPRA Plan36 governs to whom last sale reports and quotation information relating to options transactions may be disseminated. Specifically, the exclusivity clause permits the dissemination of options market data only through the OPRA System. In April 2001, however, OPRA submitted an amendment to the OPRA Plan that would permit the options exchanges to disseminate unconsolidated market information to certain members under certain conditions.37 Those conditions are that: (i) the options exchanges provide this unconsolidated market data only to their own members and not to any other person, including customers; (ii) market data is displayed in a manner that restricts display to persons permitted to transmit orders or effect transactions on the exchanges; (iii) persons with access to market data have comparable access to consolidated information disseminated by OPRA; and (iv) market data not be disseminated to exchange members on a more timely basis than the exchange provides it to, and it is accepted by, OPRA. On July 20, 2001, the Commission granted partial approval of the amendment.38
B. Joint SRO Market Information Plans and Information Networks
In accordance with this regulatory framework, the SROs have acted jointly under four national market system plans ("Plans") in disseminating consolidated market information. These Plans govern all aspects of the arrangements for collecting and distributing market information. Among other things, they require the individual SROs to transmit market information to a central processor, which then consolidates the information into a single stream for dissemination to vendors and some larger end-users. In turn, vendors disseminate the information to the public. The Plans also govern the fees that are charged for market data and the distribution of revenues derived from those fees, as well as non-fee terms, such as reporting obligations, hours of operation, and regulatory halt procedures.
The Plans govern the four networks developed by the SROs to disseminate market information for different categories of securities: (1) Consolidated Tape Association ("CTA") Network A for securities listed on the NYSE; (2) CTA Network B for securities listed on the Amex or the regional exchanges that meet Amex listing criteria; (3) the Nasdaq System for securities listed on Nasdaq; and (4) the OPRA System for exchange-listed options (collectively, the "Networks").
1. CTA Plan, CQ Plan, and Network A
Network A is operated under the CTA Plan, which governs the collection and distribution of transaction information, and the Consolidated Quotation Plan ("CQ Plan"), which governs the collection and distribution of quotation information. Network A disseminates market information for any common stock, long-term warrant, or preferred stock listed on the NYSE.39 There are approximately 3,550 securities reported on Network A.
The nine SRO participants in the CTA Plan and CQ Plan are the Amex, Boston Stock Exchange ("BSE"), CBOE, Chicago Stock Exchange ("CHX"), Cincinnati Stock Exchange ("CSE"), NASD, NYSE, PCX, and Phlx. All of the participant exchanges are auction markets. For example, on the NYSE, all order flow for a stock is directed to a central location-the trading post for the specialist in the stock-and orders interact to the maximum extent possible. An NYSE specialist acts as agent for buy and sell orders, and may also trade for its own account to help alleviate temporary disparities in supply and demand for the stock.
The CTA is an association of SRO participants in the CTA Plan, each of which names one representative to the CTA committee.40 The CTA administers the CTA Plan and is registered as a securities information processor ("SIP") under Section 11A(b) of the Exchange Act.41 The CQ Plan is administered by an Operating Committee that is substantially the same as the CTA. Under delegated authority, the administrator of Network A's day-to-day operations is the NYSE.42 The NYSE also administers data-fee access for Networks A and B. The Securities Industry Automation Corporation ("SIAC"), also a registered SIP under Exchange Act Section 11A(b), acts as Network A's information processor.43
Diagram 2 demonstrates how Network A data is made available under the CTA Plan and CQ Plan.
2. CTA Plan, CQ Plan, and Network B
Network B also operates under the CTA Plan and the CQ Plan. It disseminates market information for any common stock, long-term warrant, or preferred stock listed on the Amex or listed on the regional exchanges and meeting Amex listing criteria, but not also listed on the NYSE or the Nasdaq Stock Market.44 Network B revenues are derived from information disseminated on approximately 1,920 securities (1,280 equity securities and 640 debt securities). Network B's day-to-day administrator is Amex, under delegated authority,45 and its information processor is SIAC. The CTA and CQ Plans differentiate between Network A and Network B with respect to most financial matters and fee structures.46
Diagram 3 demonstrates how Network B data is made available under the CTA and CQ Plans.
3. Nasdaq/UTP Plan and Nasdaq System
Information for Nasdaq National Market securities47 is collected and disseminated under NASD rules and the Joint Self-Regulatory Organization Plan Governing the Collection, Consolidation, and Dissemination of Quotation and Transaction Information for Nasdaq-Listed Securities Traded on Exchanges on an Unlisted Trading Privilege Basis ("Nasdaq/UTP Plan").48 Unlike the exchange auction markets, Nasdaq is a decentralized dealer market. Nasdaq is a screen-based market, comprised of independent dealers, electronic communications networks ("ECNs"),49 and exchanges trading Nasdaq securities that submit quotations and compete with one another for investors' orders in Nasdaq securities. While the Nasdaq/UTP Plan currently covers only 1,000 Nasdaq National Market securities, a proposal is pending with the SEC that would, if approved, allow additional Nasdaq National Market and SmallCap Market securities to be phased in over the next year.
The day-to-day administrator and information processor for the Nasdaq System is Nasdaq. Nasdaq is registered as a SIP under Section 11A(b) of the Exchange Act. The participants in the Nasdaq/UTP Plan are Amex, BSE, CHX, CSE, NASD, PCX, and Phlx. To date, only the CHX and CSE have connected to Nasdaq for disseminating quotation and last sale information in Nasdaq issues to the Nasdaq/UTP Plan processor.
One significant difference between the Nasdaq System and the other Networks is the manner in which the Plan participants share revenue. The other Networks' revenues generally are distributed to their participants in accordance with their proportional share of the total transaction volume for the Network, while the Nasdaq/UTP Plan distribution formula is based on an average of transaction and share volume.50 The Nasdaq System is similar to the other Networks in most remaining respects, however, including its provision for an Operating Committee composed of one representative from each participant, and its requirement of unanimous consent for Plan amendments.
Diagram 4 demonstrates how Nasdaq data is made available under the Nasdaq/UTP Plan.51
On January 19, 2001, the SEC approved a new Nasdaq system, SuperMontage.52 In its order approving the SuperMontage system, the SEC stated its intention to require, as a condition for extending the Nasdaq/UTP Plan beyond its March 2001 termination date, that Nasdaq and the other Plan participants negotiate revisions to the Nasdaq/UTP Plan that provide for a new exclusive SIP or for multiple non-exclusive SIPs. If the revised Plan provides for an exclusive SIP, there will be a presumption that the SIP should not be a Plan participant (e.g., Nasdaq), but that presumption can be overcome under certain conditions. Finally, the SEC stated that the revised Nasdaq/UTP Plan would need to address other conditions relating to access by all exchanges, sharing of market data revenues among SRO participants, and equitable governance. The SEC subsequently included these conditions in an order approving an extension to the current Nasdaq/UTP Plan.
4. OPRA Plan and OPRA System
The OPRA System is operated under the OPRA Plan, which was approved by the SEC as a national market system plan under Rule 11Aa3-2. The OPRA System disseminates market information for series of options contracts traded by an OPRA Plan participant.53 A stock option is a contract that gives the buyer the right, but not the obligation, to buy or sell shares of the underlying security or index at a specific price for a specified period of time. They are classified according to their type, class, and series. Exchange-listed stock option contracts generally are for 100 shares of the underlying stock.
The OPRA Plan disseminates information on approximately 350,000 series of options contracts.54 The OPRA Plan participants are Amex, CBOE, ISE, PCX, and Phlx.55 The OPRA System is administered by OPRA, a committee made up of one representative from each of the parties to the OPRA Plan. OPRA is a registered SIP under Section 11A(b) of the Exchange Act. OPRA administration is handled by persons who nominally are employees of CBOE, but who report to all Plan participants. OPRA has contracted with SIAC to act as its processor.
Diagram 5 demonstrates how OPRA data is made available under the OPRA Plan.
Because of the nature of trading in standardized options, the number of instruments included, and the volume of quotes disseminated, the OPRA System collects and distributes a far larger volume of information than the equity Networks. Options data accounts for approximately 70-80% of the U.S. market data traffic.56 Among other things, this is due to the fact that there generally are numerous series of option contracts for each underlying stock, and that two-sided quotes are disseminated continuously in each of these series. Those quotes generally change whenever the underlying stock price changes.57 The average number of quotes per trade in the options markets is estimated to be 300:1.
Diagram 6 demonstrates a display of quotation and last sale information for all the series of options for Intel Corp. expiring in September.
The quantity of options market information, propelled by the volatility in the stock market, increased multiple listing of option classes, conversion to decimal pricing, technological advancements in options autoquote systems, and the dissemination of quotes with size, has led to pressure on OPRA's capacity.58 To help alleviate these capacity problems, OPRA has built a larger processing system, which is currently capable of handling 24,000 messages per second, and is scheduled to handle 38,000 messages per second by the end of 2001. In addition, the options exchanges have implemented internal quote message mitigation strategies, such as limiting the frequency of quote updates by their market makers and delisting options classes with little or no open interest. In addition, in November 2000, the SEC amended the OPRA Plan to provide for an objective formula for allocating, during peak usage periods, OPRA's limited systems capacity on a short-term basis.59 The options exchanges are continuing to explore permanent, industry-wide solutions to the capacity problems, including the dissemination of an NBBO by OPRA,60 development of a "request-for-quote" system,61 and the imposition of industry-wide limitations on options products that may be listed, based on numeric criteria.
The CTA, CQ, Nasdaq/UTP, and OPRA Plans incorporate similar rules for governing their affairs. Each Plan is governed by an Operating Committee composed of one representative from each SRO participant. Votes to amend the CTA and CQ Plans, including reductions in existing fees, generally require the unanimous vote of all Plan participants.62 However, votes to establish a new fee or to increase an existing fee require an affirmative vote of two-thirds of the participants in those Plans.63 Matters not requiring an amendment to the CTA or CQ Plan, such as decisions necessary to facilitate the operation of the legal, operational, systems and administrative framework created by the Plans, are decided by a majority vote.
Under the Nasdaq/UTP Plan, there must be a unanimous vote for: amendments to the Plan; amendments to contracts between the processor and vendors, subscribers, news services and others receiving market data; replacement of the processor (except for termination for cause); reductions in existing fees relating to information; requests for certain system changes; and all other matters not specifically addressed by the Plan. The establishment of new fees or increases in existing fees relating to market information requires the affirmative vote of two-thirds of the participants. All other actions generally require a majority vote.64
The OPRA Plan requires a unanimous vote to amend the Plan.65 All other operational and administrative actions require a simple majority vote, except that changes in fees require an affirmative vote of two-thirds of the participants.66
D. Administration of the Plans
1. Overview
The Plans and NASD rules establish the terms and conditions under which market information is disseminated by the Networks. In general, they require that market information be disseminated only to those persons that have been approved by the Network administrator and have entered into specified agreements. These market data customers can be divided into two major categories -- vendors and subscribers.67 Vendors, such as Reuters and Bloomberg, are in the business of distributing information to others. As a general matter, they receive a data feed of information from the Network processors and, in turn, disseminate the information to their customers (e.g., broker-dealers, institutional investors, and individual investors), often providing enhanced information services as well. Subscribers, on the other hand, receive market information for their own business or personal use, typically from vendors and broker-dealers.
One of the primary duties of each Network administrator is to contract with vendors, subscribers, and other parties for access to and use of the Network's data.68 Each Network's basic agreement (i.e., the vendor form69 and professional subscriber form) contains a standard set of terms and conditions for use by all vendors and subscribers of the same class.70 Attached to each basic agreement is an "Exhibit A" or "Attachment A" ("Data Feed Questionnaire"), which is unique to each vendor or subscriber. Because the Data Feed Questionnaire describes the particular manner in which the vendor or subscriber intends to receive and use the market data, vendors and subscribers are required to disclose certain confidential and sensitive information about their business operations and use of market information. This information includes how the firm will use the data, the type of services it provides, its technology for distributing and displaying market data, and how it monitors its internal users (e.g., customer service representatives in branch offices or call centers). This information is necessary to prepare accurate bills, assess appropriate fees, establish appropriate usage-reporting and record-keeping procedures, assess the data recipient's security safeguards, and identify authorized affiliates and service facilitators. The Networks' basic vendor and subscriber agreements, including the form of the applicable Data Feed Questionnaire, can be found at www.nysedata.com, www.nasdaqtrader.com, www.amextrader.com, www.fisd.net, and from OPRA's contract administration department.71 Due to the confidential nature of the information disclosed in the Data Feed Questionnaire, individual vendor and subscriber agreements are not publicly available.
The Network administrators also assemble usage reports, bill and collect the appropriate fees under the Network's rate structure,72 provide an accounting and distribution of the net revenues to the Plan participants, and develop pilot programs.73 In addition, the NYSE and Amex, as the administrators of Network A and Network B, respectively, act as liaisons between the Networks and SIAC.
2. Current Issues
Some believe that the administration of the Networks creates substantial and unjustifiable burdens on vendors and subscribers, as a result, among other things, of (a) the wide discretion given to the Plan administrators in interpreting market data contracts, (b) the Networks' Data Feed Questionnaire requirements, and (c) the costs of complex contract administration incurred by data users.74
For example, some users view the Networks' contracts as lengthy, complex and, at times, ambiguous.75 Because form contracts generally cannot address new technologies, special situations, or new applications, there are often conflicts of interpretation between the Networks and the vendors or subscribers. Some believe the Plan administrators have significant discretion in resolving these conflicts, and the resulting interpretive disputes have led at least one subscriber to believe the market data fees it pays may be "unreasonably discriminatory."76
The Data Feed Questionnaire requires disclosure of certain sensitive information, which some believe is unnecessary for legitimate market data administration, and could be used for competitive purposes.77 Some also complain there is little transparency surrounding the basis for rejection or acceptance of potential market data uses, making it difficult for those firms to determine whether the process is fair and non-discriminatory.78 Moreover, some subscribers note that obtaining the Networks' prior approval for each new data-feed recipient, subscriber or new market data product can take several weeks, considerably slowing down a vendor's or broker-dealer's ability to quickly respond to marketplace needs.79 In addition, substantial technical staff input is needed to comply with the various filing and updating requirements associated with the Data Feed Questionnaire.80
Some believe the administrative burdens of complying with the Networks' contracts are substantial and costly. For example, firms must pay separate fees and submit separate contracts and system descriptions to obtain each Network's data. In addition, a firm must amend the Data Feed Questionnaire each time it adds a new market data product. Monitoring market data usage, disclosing substantially similar information to multiple Networks, tracking market data services and fees, and reconciling invoices requires firms to commit substantial system and staff resources.81
Finally, some also believe that the burdens of market data administration are exacerbated by the lack of common standards and uniform pricing among the Networks. They contend that, in the absence of elimination of burdensome administrative requirements such as prior approvals and Data Feed Questionnaires, the Networks should adopt a common format and standard for subscriber agreements. They believe that ensuring that the Networks' contracts have simple, clear contract language would reduce the cost of market data and allow customers to initiate receipt of market data more quickly.82
E. Collection and Processing of Information
The Plans require their SRO participants to collect and promptly report market information to the Plan processors. The processors are responsible for receiving the information from the Plan participants, consolidating the information, and then disseminating it in accordance with the Plans. In addition to the information provided under the Plans, SROs and vendors may choose to separately disseminate additional market information.
1. CTA and CQ Data
The CTA and CQ Plans designate SIAC as the exclusive processor for Network A and Network B.83 Each of the Plan participants provides SIAC with its last sale and quote information electronically. SIAC then processes the information and calculates volume data and an NBBO that identifies the applicable market center.84 SIAC distributes the consolidated data feed to recipients approved by the Networks.
Diagram 7 shows the current Network A and Network B data distribution arrangement.
SIAC currently provides a consolidated feed directly to approximately 86 entities, consisting of exchanges, press organizations, vendors, and broker-dealers. Most of the vendors, as well as a few broker-dealers, offer data feed services to others. These services typically also provide OPRA and Nasdaq data, as well as data from domestic futures exchanges and from non-U.S. exchanges.
In addition, approximately 1,500 information users receive consolidated data feeds indirectly, through one or more of the data feed providers. For the most part, these indirect data-feed recipients are broker-dealers, institutions, and others that redistribute data internally to their employees and retail customers.
SIAC performs the processing function at cost.85 In 2000, SIAC's Network A and Network B consolidation costs were $7,743,000.86 SIAC's costs are verified by the Plan auditors and annually reported to Plan members.
2. Nasdaq Data
Nasdaq is the exclusive processor for the Nasdaq system.87 Under the Nasdaq/UTP Plan, Nasdaq offers two market information services directly to vendors and other subscribers. Level 1 service includes the NBBO, all last sale reports, and volume data for securities included in the Nasdaq National Market and the Nasdaq SmallCap Market. The Nasdaq Quotation Dissemination Service ("NQDS" or "Level 2") includes information provided in Level 1, plus real-time quotes from each Nasdaq market maker, ECN, and exchange participating in the Nasdaq system.
Diagram 8 demonstrates a display of Level 1 versus NQDS for Intel Corp.
Nasdaq distributes data to approximately 133 direct distributors (79 vendors and 54 internal distributors) and 1,197 indirect distributors. Nasdaq has approximately 425,262 professional subscribers and 1,385,090 non-professional subscribers who receive Level 1 service. Further, 90,170 professional subscribers and 64,017 non-professional subscribers receive NQDS service. In 2000, Nasdaq's processing costs for providing this information were $29,223,000. The Nasdaq/UTP Plan expenses are verified by the Plan auditors.
3. OPRA Data
For securities subject to the OPRA Plan, OPRA has contracted with SIAC to disseminate quotations, last sale reports, the options series, number of contracts, marketplace identification, open interest, end of day summaries, and other administrative messages. SIAC performs the processing function for OPRA at cost.88 The OPRA Plan does not require the dissemination of an NBBO,89 but most options exchanges generate their own best bids and offers,90 and at least one vendor creates an NBBO for the options markets.
OPRA has two types of service: (1) Basic, which includes all equity and index options; and (2) Foreign Currency Options ("FCOs"). Vendors can receive this information either directly from SIAC or indirectly from another vendor. Currently, 33 vendors receive options data directly from SIAC, and the remaining 139 receive it indirectly.
Approximately half of the 172 vendors disseminate the data in real-time. These vendors supply data to OPRA's approximately 8,600 basic service professional customers who have 289,000 terminals worldwide, and to the 1,800 FCO customers who have 12,800 terminals worldwide.
It is estimated that during June 2001, these same vendors supplied options data to roughly 178,000 non-professional customers who pay a flat $1 per month rate.91 In addition, OPRA has a $1 cap on the non-professional per quote fees. Vendors can switch their customers between the flat rate and per quote rate at any time.
4. Information Provided Outside of the Plans
In addition to the information provided in accordance with the Plans, the SROs, and vendors may choose to separately disseminate additional information not covered by the Plans or the Display Rule. Some examples are set forth below.
a. NYSE Depth Indication and Limit Order Book
In March 2001, the NYSE enabled its specialists to voluntarily disseminate a depth indication and depth condition to indicate that there is additional market interest in a security not shown in the published NYSE quotation - specifically, interest to buy within a certain range below the current published bid, or interest to sell within a certain range above the current published offer.92 The program permits specialists to disseminate a depth condition that shows the actual number of shares of additional market interest at a particular price below the published bid or above the published offer. The NYSE initiated this program in response to concerns, particularly from institutional investors, about the decreased transparency of trading interest that resulted from the penny ticks that accompanied decimalization.93
In addition, the NYSE has announced its intent to begin publicly disseminating its limit order books. NYSE OpenBookTM will provide a real-time, dynamically-updated view of the limit order books for all NYSE-traded issues.
Diagram 9 shows an example of a hypothetical display of the NYSE OpenBookTM.
Diagram 9
b. Nasdaq SuperMontage
Nasdaq's SuperMontage will combine Nasdaq's stand-alone quotation and order routing systems with a means for aggregating orders/quotes at multiple price levels--similar to a limit order book-to create an integrated trading system. When implemented, it will display greater depth of trading interest than is presently available. SuperMontage will permit, but not require, Nasdaq market makers, participating ECNs, and exchanges trading Nasdaq securities pursuant to unlisted trading privileges ("UTP Exchanges") to enter multiple quotes/orders at the same price or at different prices.94 In addition, trading interest will be permitted to be entered on a non-attributable basis.95
This additional information will be displayed by Nasdaq in two ways. First, the best-priced non-attributable quotes/orders from all participants will be aggregated and displayed in the quotation montage under the generic name (or market participant identification symbol) "SIZE," along with the best-priced attributable quotes/orders of each Nasdaq quoting market participant and UTP Exchange. Second, SuperMontage will aggregate all quotes/orders (attributable and non-attributable) at each price level, and dynamically display (i.e., in real-time) the three best prices with associated aggregate size on each side of the market. The same information will be distributed to market data vendors so that they can provide an equivalent display service to their customers. In addition, Nasdaq intends to provide, on a real-time basis, all individual attributable quote and order information at the three best price levels displayed in the Nasdaq order display facility through a new vendor data feed called NQDS Prime. Thus, the intention is for market participants to be able to see the aggregate Nasdaq trading interest at three price levels, as well as the individual attributed orders that comprise that interest.96
Diagram 10 shows an example of a hypothetical SuperMontage display for Microsoft Corp.
Diagram 10
c. ECN Limit Order Books
The Internet has significantly improved the accessibility of market-related data, particularly ECN limit order books. Certain ECNs, such as Island and Archipelago, make their limit order books available on their websites at no charge. In addition, several Internet portals, such as www.yahoo.com and www.3dStockCharts.com,97 offer free access to ECN limit order books and other market data. Currently, ECNs are the only market centers to publicly disseminate full depth of book.
Diagram 11 demonstrates a display of an integrated ECN book for Intel Corp.
Diagram 11
| Bid Orders | Ask Orders | ||||
| Price | Total Order Size | ECN | Price | Total Order Size | ECN |
| 30.281 | 1,000 | Island | 30.32 | 4,000 | Island |
| 30.25 | 600 | Island | 30.32 | 200 | Archipelago |
| 30.21 | 500 | Island | 30.40 | 1,400 | Island |
| 30.20 | 1,550 | Island | 30.41 | 700 | Island |
| 30.18 | 3,500 | Island | 30.42 | 4,302 | Island |
| 30.15 | 195 | Island | 30.44 | 1,000 | Archipelago |
| 30.14 | 200 | Island | 30.44 | 950 | Island |
| 30.13 | 4,100 | Island | 30.46 | 1,238 | Island |
| 30.12 | 1,000 | Island | 30.47 | 500 | Island |
| 30.11 | 400 | Island | 30.48 | 2,000 | Island |
5. Volume of Information
With the expansion in trading volume of recent years, the amount of information handled by the Plan processors has expanded dramatically. For example, in 1994, SIAC processed 73 million transaction reports and 115 million quotations for Network A and Network B. In 2000, these figures increased to 312 million transaction reports and 691 million quotations, for an increase, respectively, of 327% and 500%.98 The increase in peak messages per second also reflects the recent growth in trading volume. For example, the highest peak messages per second for quotations processed by Nasdaq in 1995 and 2000 were 37 and 569, respectively.99 The annual number of transaction reports, annual number of quotations, messages per second capability, and highest peak messages per second, processed by each Network beginning in 1980 and for every fifth year thereafter, are set forth in Appendix D.
Before 1972, there were no Commission rules requiring the SROs to distribute market information to the public or to consolidate their information. Each SRO acted individually and disseminated information on its own terms. The SROs decided what information to disseminate, to whom to disseminate the information, and the amount of fees to charge.
Today, the SROs, through the various Plans, collectively set the level of fees for access to market information. They also determine the way market data revenues are allocated among the SRO participants. However, the Exchange Act, through the 1975 Amendments, and the rules adopted thereunder, create minimum baseline standards with respect to the type of information distributed, as well as the level of fees and nature of the fee structures, that limit the SROs' discretion. As described below, the Plans must be administered in a manner that is consistent with the requirements of the Exchange Act and the rules thereunder, and are subject to SEC oversight.
Although Congress intended to rely on competitive forces to the greatest extent possible to shape the national market system, it also recognized that the SEC would need ample authority to achieve the goal of providing investors and broker-dealers with a central source of consolidated market information. For example, in those situations where competition might not be sufficient, such as the creation of a composite quotation system or a consolidated transactional reporting system, the SEC was expected to use its powers under the 1975 Amendments to act promptly and effectively to ensure that the essential mechanisms of an integrated market were implemented.100 Accordingly, Congress granted the SEC pervasive rulemaking power to regulate securities communications systems.101
Congress was particularly concerned about entities that would be exclusive processors of market information for the SROs (including the SROs themselves). It noted that any such processor would be, in effect, a public utility, and thus must function in a manner that is absolutely neutral with respect to all market centers, all market makers, and all private firms.102 Section 11A of the Exchange Act granted the SEC broad powers over any exclusive processor, including the responsibility to assure the processor's neutrality and the reasonableness of its charges.103
Section 11A(b)(1) of the Exchange Act requires registration with the SEC of any SIP that is an exclusive processor. An "exclusive processor" is defined in Section 3(a)(22)(B) as any SIP or SRO that, directly or indirectly, engages on an exclusive basis in collecting, processing, or distributing the market information of an SRO. If a registered SIP limits the access of any person to its services, Section 11A(b)(5) provides for SEC review of that limitation. The SEC may uphold a limitation on access only if it is consistent with the Exchange Act and the rules thereunder, and the entity subject to the prohibition or limitation has not been discriminated against unfairly. If the SEC cannot make this finding, or if the prohibition or limitation imposes any burden on competition not necessary or appropriate in furtherance of the purposes of the Exchange Act, the SEC must set aside the limitation on access.
Section 11A(c)(1) of the Exchange Act prohibits SROs, SIPs, and broker-dealers from contravening rules prescribed by the SEC to: (1) prevent the use, distribution, or publication of fraudulent, deceptive, or manipulative market information;104 (2) assure the prompt, accurate, reliable, and fair collection and dissemination of market information, and that the form and content of the information is fair and useful;105 (3) assure that exclusive processors make their market information available to all SIPs on terms that are "fair and reasonable;"106 (4) assure that all persons have access to market information from SROs and SIPs on terms that are "not unreasonably discriminatory;"107 (5) assure that all broker-dealers transmit orders in a manner consistent with the establishment of a national market system;108 and (6) assure equal regulation of all markets and broker-dealers effecting transactions in national market system securities.109
B. SRO and Plan Approval of Fee Proposals110
The process of setting a market data fee for Network A, Network B, and the Nasdaq/UTP Plan typically begins with the Network administrator identifying a business need or opportunity for sale of market data in a particular form or for a particular use.111 Generally, the administrator will discuss the resulting proposal with a representative portion of the market data community, including vendors, member firms, other data recipients, and industry trade groups. For OPRA, a Policy Committee examines fee issues and recommends any changes. In practice, over the last 10 years, OPRA has implemented fee changes only after meeting with the SIA to seek its input and acceptance. 112
If favorable feedback is received, the new fee for this use of the data is presented to the SRO representatives on the Operating Committee of the applicable Plan. The SRO representatives then take the fee proposal back to their respective Boards of Directors for review and approval, before casting their vote as a member of the Plan Operating Committee.113 The CTA Plan, CQ Plan, and Nasdaq/UTP Plan require a unanimous vote to reduce fees, and an affirmative vote of two-thirds of the participants to establish a new fee or increase an existing fee.114 All changes in fees under the OPRA Plan require an affirmative vote of two-thirds of the SRO participants.115 Once a fee proposal is approved by a Plan, it is filed with the SEC.
C. SEC's Review of Market Information Fees
The SEC most often has reviewed market information fees as amendments to the CTA, CQ, and OPRA Plans under Rule 11Aa3-2(c) of the Exchange Act and proposed rule changes by the NASD under Section 19(b) of the Exchange Act (for fee changes impacting the Nasdaq/UTP Plan). In this context, as with other rule proposals, the SEC staff has relied to a great extent on the ability of the SROs and Plans to develop fair and reasonable fees that are acceptable to SRO members, information vendors, investors, and other interested parties. This approach was adopted soon after the 1975 Amendments were enacted.116
The industry negotiation process is buttressed by the public notice and comment procedures that accompany Plan amendments and proposed rule changes.117 In addition to commenting on proposed rule changes, vendors or subscribers who believe that a fee is so high as to constitute an unjustifiable limitation of their access to market information may, under Section 11A(b)(5) of the Exchange Act, apply to the SEC to institute proceedings to review the fee.
1. Filing of Plan Amendments and SEC Review
All Plan amendments, including matters relating to fees, are subject to SEC review under Rule 11Aa3-2. To amend a Plan, the SROs must file, to the extent applicable, the following information with the SEC: (a) the amendment text; (b) a statement of purpose; (c) a description of the manner in which the amendment will be implemented; (d) a listing of the significant phases of development and implementation and the projected dates of completion; (e) an analysis of the impact of the amendment on competition; (f) a statement that the amendment has been approved by the sponsors in accordance with the terms of the Plan; (g) the terms and conditions under which brokers, dealers, or SROs will be granted or denied access (including specific procedures and standards governing the granting or denial of access); and (h) the method by which fees or charges will be determined and imposed and the amount of such fees or charges.
After receiving the filing, the SEC publishes a notice of the amendment to provide the public with an opportunity to submit comments. In general, under Rule 11Aa3-2(c)(2), the SEC has 120 days from the date of publication of the notice to determine whether or not to approve the Plan amendment.118 Under Rule 11Aa3-2(c)(3)(i), however, an amendment may be effective on filing so long as it, among other things, merely establishes or changes a fee in connection with the access to, or use of, any facility contemplated by the amendment.119 In evaluating any Plan amendment, including market data fees, the SEC would consider whether the fees are "fair and reasonable,"120 and whether the fee structure is "not unreasonably discriminatory."121
2. Filing of SRO Proposed Rule Changes and SEC Review
Historically, proposed rule changes by the NASD that relate to the Nasdaq System have been filed with the SEC under Section 19(b) and Rule 19b-4 of the Exchange Act. These provisions govern all proposed rule changes by the individual SROs, including fees or charges for market information provided outside of the Plans.
SRO proposed rule changes are filed on Form 19b-4. The following information must be included in the form: (1) text of the proposed rule change; (2) a detailed statement of the purpose and an explanation of why the rule change is consistent with the requirements of the Act; (3) whether the rule change will impose any burden on competition and, if so, why the burden is necessary or appropriate in furtherance of the purposes of the Act; (4) the substance of any written comments received by the SRO's members and other interested parties; and (5) if applicable, the basis for immediate effectiveness under Section 19(b)(3) or accelerated effectiveness under Section 19(b)(2) of the Exchange Act.
The SEC publishes notice of the proposed rule change to give the public an opportunity to submit written data, views, and arguments concerning the proposal. Similar to Plan amendments, however, the proposed rule change will be effective upon filing if it, among other things, merely establishes or changes a due, fee, or other charge imposed by the SRO.122 It is the SEC's policy, however, to require fee filings that either raise significant regulatory issues or apply to non-members or non-participants to be submitted pursuant to Exchange Act Section 19(b)(2) for full notice and comment, rather than to be immediately effective upon filing.123
3. Denial or Limitation of Access Review
The SEC has reviewed market information fees under the Exchange Act Section 11A(b)(5) "denial/limitation of access" provision on only two occasions. The first involved OPRA and several information vendors; the second involved the NASD and Instinet.
In 1978, the SEC issued an order addressing OPRA's decision to impose an access fee on information vendors.124 OPRA's justification for the proposed fee was to recoup the costs of developing and operating its new high-speed consolidated options reporting system. The vendors challenged OPRA's statutory authority to impose an access fee, but the SEC determined that the language of Sections 11A(b)(3), 11A(b)(5), and 11A(c) of the Exchange Act indicated that a registered SIP is permitted to impose terms of access on vendors, including access fees. The SEC specifically declined, however, to evaluate the amount of the fee.125
The second instance occurred in 1984, when the SEC evaluated a market information fee in a limitation of access proceeding involving a dispute between the NASD and Instinet over the sale of a market data product. The NASD sold the product to Instinet, which then resold it to its own subscribers. The NASD also provided virtually the same product to its own direct subscribers. The NASD charged Instinet a fee for the product, and charged an additional fee to Instinet's subscribers.
The SEC issued an order finding that the NASD's fee to Instinet's subscribers represented an unwarranted denial of access, primarily because the NASD had failed to submit an adequate cost-based justification for its proposed fee.126 The SEC emphasized, however, that the scope of its decision was limited to the particular competitive situation presented in the proceedings. Because the NASD also was in the business of providing enhanced information products to its own direct subscribers, the fees that the NASD charged to vendors could directly and substantially affect the ability of these vendors to compete in the market for providing enhanced information.127 In this context, the SEC found that the requirement of Section 11A(b)(5)(B) - that a limitation on access not impose any burden on competition not necessary or appropriate in furtherance of the purposes of the Exchange Act - could be satisfied only if the fee was based on the NASD's costs of providing the information to vendors.128
The SEC emphasized, however, that it was the peculiar competitive context of the proceedings that led to its decision to require a strict, cost-based justification. It specifically distinguished fees for services that the NASD did not provide in competition with vendors.129
The Instinet order was affirmed in National Assoc. of Securities Dealers, Inc. v. SEC.130 The court agreed with the SEC's analysis of the competitive context of the NASD's proposed fee, noting that had the SEC approved NASD's value-of-service fee proposal, Instinet's subscribers effectively would have been required to pay NASD retail rates for a wholesale service.131 Although it recognized that strict cost allocation was a difficult task, the court affirmed the SEC's view that such an approach was necessary given the NASD's competitive position in relation to Instinet.132
4. Pilot Programs
The CTA Plan, CQ Plan, and NASD rules contain provisions that authorize market data "pilot programs" to be implemented without formal Plan approval or SEC filing or review.133 These pilot programs are to be limited in duration, geography, and scope.
Representatives of the Networks noted that a significant benefit of the pilot program process is that it allows new market data services and rates to be tested quickly and efficiently - free from the formal rule filing process associated with permanent fee changes- until its viability first has been established. In addition, pilot programs afford a Network a competitive incentive to be the first to offer or accommodate an innovative new service.
Others note that pilot programs can raise significant concerns, including their potential impact on competition, potential discrimination, and potential lack of transparency, as well as the business uncertainty they can create for broker-dealers. They believe that significant pricing changes implemented through these temporary programs, for example, can interfere with the ability of broker-dealers to plan and budget their market data expenses.134
In addition, pilot programs are intended to permit a Network's administrator to test fee arrangements, for limited periods of time, before they are filed with the SEC. However, some pilot programs have, in the past, been used by the Networks for many years before they were filed with the SEC for approval.135 Currently, there are only two pilot programs maintained by the Networks (one by Network B and one by Nasdaq). These are discussed below.
a. CTA/CQ Pilot Programs
Section IX(e) of the CTA Plan provides that the Network administrator, on behalf of the Plan participants, may enter into arrangements of limited duration, geography, and scope with vendors and other persons for pilot test operations designed to develop new last sale price information services and uses. The Network administrator must promptly report to Plan participants the commencement of each pilot program and, upon its conclusion, any market research obtained from the pilot. Section VII(e) of the CQ Plan contains a nearly identical provision.
For pilot programs under the CTA and CQ Plans, the parties enter into an addendum to the standard form of vendor agreement that governs the pilot. As Network A administrator, the NYSE's policy is to disclose a new pilot program to the other Participants and the SEC at the CTA meeting that follows the commencement of that program.136
Network A currently has no pilot programs. Network B has one pilot program for the distribution of real-time quotes on television. This program, introduced in March 1999,137 currently has two participants. The monthly fees per 1,000 households range from $1.60, for up to 1,000,000 households, to $.01, for more than 60,000,000 households, and are capped at a $125,000 annually.138 The revenue from the pilot represented 0.2% of Network B's total year 2000 revenue.
b. Nasdaq Pilot Programs
NASD Rule 7100(b) permits the NASD to enter into market data pilot arrangements of limited duration, geography and scope. These arrangements permit the testing and operation of new information services and uses to evaluate their impact, and to develop the technical, cost and market research information necessary to formulate permanent charges, terms and conditions.
Nasdaq currently has one Rule 7100(b) pilot program involving distribution of real-time data on television. The fees for this program, which began in 1997, are $.002 per household for the first 10,000,000 households, $.001 per household for the next 10,000,000 households, and $.0005 per household for additional households.
The various fee structures that have been established by the Networks139 for the dissemination of market information reflect a vendor/subscriber dichotomy. Vendors contract directly with the Networks for the right to receive information and distribute it to their customers (e.g., broker-dealers, institutional investors, and individual investors). Vendors pay a variety of access and usage fees to the Networks.140
Professional subscribers may contract directly with the Networks for receipt of market information, but generally obtain access to information through a vendor. Broker-dealers that both use information internally and distribute it to others (e.g., their brokerage customers) act as both vendors and subscribers.
Each of the Networks receives the vast majority of its revenues through subscriber fees. The most significant subscriber fees fall into two categories - monthly and per-query. Monthly fees entitle the subscriber to an unlimited amount of real-time market information during the calendar month. Monthly fees are charged to professional subscribers on a per-device basis and to nonprofessional subscribers on a per-customer basis.141 Under the per-query fee structures, subscribers are required to pay an amount for each request for a packet of real-time market information.142
The fee schedules for each Network are set forth in Appendix B.
1. Professional Subscriber Fees
Monthly fees for professional subscribers generally range from $18.00 to $127.25 per Network.143 Based on an average of 21 trading days per month, a professional subscriber generally is charged from approximately $0.85 to $6.00 per trading day for market information.
These fees produced revenues of $469 million in 2000 compared to $231 million in 1994, an increase of 103%. The revenues generated by professional subscriber fees represented approximately 78% of the total amount of the Networks' revenues in 2000. The fees themselves have remained essentially the same over the last five years.144 It is an increase in the number of professional subscribers that has produced the increase in revenues.
2. Retail Investor Fees
The monthly fee currently applicable to retail investors is $1.00 for unlimited access to a particular Network's core information, and the per-query fees range from $.0025 to .02.145 The revenues from fees applicable to retail investors (which include monthly fees for nonprofessional subscribers and per-query fees) have grown rapidly in recent years, increasing from $3.7 million in 1994 to $115 million in 2000. This increase is attributable to the shift in data dissemination to retail investors from the telephone/registered representative channel to the on-line channel, and the resulting increased demand by retail investors for market data, and not to fee increases by the SROs. In fact, per-query fees have fallen in recent years.146 These revenues now represent approximately 19% of total market information revenues.
3. Fee Discounts
The fee structures for Network A, Network B, and the OPRA System include various discounts that are based on the size of the subscribing firm or on whether the firm is a member of an SRO that is a participant in the particular Network. They include: (1) a Network A and Network B "enterprise arrangement," adopted in 1999 and 2000, respectively, that caps the aggregate amount a registered broker-dealer must pay for most of the information services provided to its employees and customers at $500,000 per month;147 (2) an OPRA "enterprise rate" for professional subscribers of $10 per month for each registered representative;148 (3) Network A monthly professional subscriber fees that range from $18.75 per device for subscribers with more than 10,000 devices to $127.25 for subscribers with a single device; (4) OPRA monthly professional subscriber fees that are $6-$10 less per device for members of an SRO that is a participant in OPRA than for non-members; (5) Network A nonprofessional subscriber fees that are $1 per month for the first 250,000 subscribers per vendor, and 50¢ per month for subscribers above 250,000; and (6) Network A, Network B, and OPRA per-query fees that are reduced based on the number of quotes distributed by a vendor during a month.149
E. Distribution of Market Information Revenues
The Plans have adopted similar rules governing their financial matters.150 All revenues derived from fees charged for a Network's market information are included in a single pool. The Network's operating expenses (amounts incurred by the Network's administrator and processor in performing their Network functions) are paid directly out of the Network's revenues. A Network's operating expenses do not, however, include any of the costs incurred by the individual SROs in reporting their information to the Network processors.151
After deduction of operating expenses, each Network's revenues generally are distributed to its participants in accordance with their proportional share of the total transaction volume for the Network.152 Finally, each of the Plans also requires that its participants annually be provided with audited statements of its financial affairs.153 The revenues, expenses, and distributions for each of the Networks are set forth in Appendix C.
In recent years, a number of significant market structure changes led the SEC to reexamine the existing model for collecting and distributing market information, including growth of online trading, for-profit market centers, and decimalization. As part of this process, the SEC issued a Concept Release on market information and, ultimately, formed the Advisory Committee to assist it in this examination.
A. Changes in Market Structure
1. Growth of Online Trading
Many of the significant changes in the securities industry that have occurred since 1975 are attributable to technological advances. For example, retail investors now regularly buy and sell securities over the Internet through "on-line" accounts with their broker-dealers. To effectively trade online, investors need access to real-time market information to make informed trading decisions (e.g., what type of order to use, how to price an order, when to place an order, and whether to break up an order).154
The first Internet-based trading systems were introduced in 1995. Since that time, the demand by retail investors for useful and timely information has grown dramatically, so that today there are over 20 million online accounts and an average of 853,000 online trades per day.155 Broad access to real-time market information is critical to retail investors' ability to monitor and control their own securities transactions, including the quality of execution of their transactions by broker-dealers.
2. For-Profit Market Centers
A second major development leading to the SEC's reexamination of market information was the rise of for-profit market centers, and the potential impact of the profit motive on market data fee structures. Recent years have seen the growth of alternative trading systems ("ATSs"),156 such as ECNs, that compete with the traditional markets operated by the exchanges and the NASD.157 Some ECNs, which are operated by for-profit entities, have applied for registration or indicated an interest in registering as national securities exchanges.158 ECNs also have sought to have their quote and trade information widely publicized, including as part of the consolidated quote.
In 2000, ISE became the first for-profit SRO. In addition, traditional markets, such as Nasdaq, are in the process of, or are exploring the possibility of, converting from membership organizations to publicly-held for-profit corporations in order to compete more effectively.159 Some have expressed concern that the growth of publicly-held for-profit market centers might require closer monitoring of market data fees and revenues, to assure that the profit motive and competitive pressures, heightened by public investor expectations, do not result in unreasonable or inequitable fee structures.
3. Decimalization
The implementation of decimal pricing in 2001, and the concurrent move to a minimum tick of one penny in the equity markets,160 was another factor that caused the SEC to reassess current market data systems.161 By increasing the potential number of quote increments by more than six-fold, decimalization was widely expected to lead to less depth being available at each price point.162 This, in turn, could reduce the value of the NBBO as an indication of an obtainable market price, particularly for market participants with larger orders. In addition, there was concern that decimalization might lead to a surge in quote traffic and a corresponding drain on systems capacity, since the larger number of price increments could cause market participants to update their quotes more frequently. Some industry participants thought that these anticipated, rapidly changing (or flickering) quotes would likely make the NBBO less meaningful.163 Accordingly, decimalization led some to question whether deeper or different levels of market data should be collected and distributed.
With the recent growth of online trading, a broker-dealer offering online brokerage services called for a reexamination of various market data issues, including the level of market data fees and the way in which fee structures are determined.164 In December 1999, the SEC issued a Concept Release on the Regulation of Market Information Fees and Revenues ("Concept Release"), which focused primarily on the fees charged for market information and the role of revenues derived from those fees in funding the operation and self-regulation of the markets.165
The Concept Release solicited public comment on various market data issues, including a proposed flexible cost-based approach for evaluating market data fees, possible ways of distributing market data revenues to fund more directly certain self-regulatory functions, greater public disclosure concerning fees and revenues, and broader industry and public participation in the process of setting and administering fees.
The comments received by the SEC in response to the Concept Release reflected a wide range of views.166 Some commenters thought the current system worked well, and that further SEC action was unwarranted.167 Others were of the view that, while modifications to the system may be necessary in the future, the time was not right for SEC action because significant structural changes were taking place in the markets.168 Still other commenters believed the SEC should make significant changes to the system for collecting and distributing market information.169 Specific comments on each of the issues raised in the Concept Release are discussed below.
1. SEC's Proposed Cost-Based Approach
Commenters held widely varying views on the SEC's proposed conceptual approach for setting a cost-based limit on total market information revenues. Under this approach, each SRO would: (a) calculate the amount of its direct market data costs; (b) calculate a gross common cost pool, and multiply that by a standard allocation percentage to determine its net common cost pool; and (c) allocate its total cost of market information - the sum of (a) and (b) - to the various Networks whose securities it trades. The total amounts allocated to each Network from its SRO participants would form the basis of the limit of the fees that could be charged for that Network's market data.170
Although some commenters generally supported the idea of a flexible cost-based standard for setting fees,171 no commenter explicitly supported implementation of the SEC's proposal. The majority of commenters on this issue believed the SEC's cost-based approach would be unnecessary and impractical.172 These commenters cautioned that classification of common costs could not be done without significant disagreements, continual auditing, and considerable expense. Some further pointed out that, historically, cost-based systems have encouraged cost-padding, and created disincentives to reduce the costs through efficient operation or innovation.173
In addition, some commenters objected to the proposed formula because it included the SROs' "common costs."174 These commenters contended that to be fair, effective, and enforceable, a cost-based standard must only include those SRO costs directly associated with gathering and disseminating market information.175
2. Fairness and Reasonableness of Specific Fees
Views also were requested on the fairness and reasonableness of the various market data fee structures, which include separate fees for professional and retail subscribers.176 The SROs unanimously responded that the levels of both professional and non-professional market data fees were fair and reasonable, and not unreasonably discriminatory.177 In contrast, other commenters argued that the present fee structure unfairly discriminates against broker-dealers and vendors that repackage or otherwise add value to the information for retail customers.178 They indicated that the fee levels in effect at that time made it cost-prohibitive to offer retail customers access to the full scope of market data available to professionals, such as streaming, dynamically-updated quotes, real-time securities and account valuation, and quotes from all Nasdaq market makers. These commenters urged that any variance in fees should be based only on differences in costs to deliver data to specific categories of users.179
3. Distribution of Network Revenues and SRO Funding
In addition, the Concept Release solicited comment on a conceptual approach to distributing market information revenues that could provide for more direct funding of SRO functions that enhance the integrity and reliability of market information.180 Specifically, comment was requested on (a) whether certain SRO costs that most directly enhance the integrity of market information - principally, the cost of market regulation - should be funded as part of the initial "direct distribution"181 in addition to Plan costs, and (b) whether the formula for making the subsequent "proportional distribution"182 should be revised to compensate the SROs more in accordance with the value of the information they contribute to the stream of consolidated information.
The commenters were almost evenly divided on whether SRO costs that directly enhance the integrity and reliability of market information should be funded.183 They also generally disagreed on which costs should be associated with the direct production of market information and with market regulation.
The SROs were the primary commenters on the issue of whether the revenue distributions should be revised to reflect more directly the value that each SRO's information contributes to the stream of consolidated market data.184 Many commenters believed the current system is preferable to the SEC's proposed approach, primarily due to the practical difficulties in designing a system that would accurately value quotations.185 A few commenters thought revenue distributions should be revised to reward the generation of high-value market data, although each commenter proposed a different formula.186
4. Plan and SRO Disclosure
Comment was requested on whether the Plans should be required to make annual public filings for the Networks that would contain: (a) a complete listing of all their fees; (b) the number of users participating in each fee program; and (c) audited financial statements setting forth their revenues (including an itemized listing of revenues attributable to each fee program), expenses, and distributions. In addition, the Concept Release asked whether the SROs should be required to provide greater disclosure of their financial condition, including disclosure of the costs associated with the performance of their various SRO functions.
All of those who commented on the issue believed that the SEC should require annual public filings for the Networks.187 Several commenters further believed that the SROs should provide greater financial disclosure to the public, particularly the costs associated with providing market information.188 The SROs, on the other hand, noted that they currently publish audited financial statements, which are prepared in accordance with generally accepted accounting principles. The SROs added that a more detailed disclosure of the costs associated with each SRO function would lead to arbitrary decisions, and require the SEC to establish uniform accounting standards and procedures in this area.189
5. Plan Governance and Administration
The Concept Release requested comment on a variety of issues relating to the governance structures of the Plans. These issues included: (a) whether non-SRO market participants, such as vendors, broker-dealers and investors, should be members of the Plan Operating Committees; (b) whether additional committees with broad participation should be established to address the issues of most direct concern to non-SRO market participants; (c) the appropriate mechanism for selecting non-SRO representatives to a committee; (d) whether the non-SRO representatives should have voting rights; and (e) if permitted to vote, the appropriate weighting of votes by non-SRO representatives.
In response to these questions, a majority of the commenters believed that the SROs did not adequately represent the interests of all market data consumers, and recommended broader industry and public representation in the Plan governance structures.190 These commenters, however, disagreed on the manner of participation by the non-SRO representatives (e.g., whether or not they should have voting rights, and whether their participation should be limited to certain issues).191 Some SROs noted that market data decisions currently reflect input from a variety of market participants through the broad-based constituent boards of the SROs, which ultimately approve all significant market data matters.192
The Concept Release also solicited comment on ways to improve the administration of the market data Plans. All of those who commented on the issue of administration favored reducing the administrative burden associated with distributing market data by simplifying and standardizing agreements, policies, and reporting requirements.193 Some of the specific suggestions included creating a comprehensive database of market information, devising common language for Internet subscriber agreements, and eliminating case-by-case approval procedures.194
6. Pilot Programs
Comment was solicited on the advisability and usefulness of pilot programs, and whether their terms should be publicly disclosed and their duration more precisely limited. The majority of commenters supported the continued use of pilot programs as a means of ensuring that SROs, vendors, and market data users can quickly respond to a rapidly evolving marketplace.195 The commenters disagreed, however, on whether there should be notice and public comment prior to the initiation of a pilot program.196 No commenter objected to a reasonable limitation on the duration of the programs.
7. Alternative Approaches to Dissemination of Market Data
Finally, although the Concept Release did not explicitly request comment on alternative approaches to the dissemination of market information, a number of commenters offered suggestions in this area. Several recommended introducing competition into the compilation and distribution of market data, but only a few proposed specific approaches.197
For example, Fidelity recommended opening the central processor function to competitive bidding. The processor role could be awarded to a single firm, or to multiple firms that would carry out severable functions. Bids would be submitted based on maximum level of fees, with vendors and subscribers free to negotiate more favorable rates. In addition, all bidders would be required to provide for enterprise fees and fees for individual users that access market data through multiple terminals.198
NexTrade suggested having one national market system plan, with broad-based governance, including ECNs, broker-dealers, issuers, and at least fifty-percent non-industry participants. In addition, there would be competing processors for all market information.199
The NYSE believed markets should be permitted to withdraw from the Plans, and separately distribute and price their data.200 In the NYSE's view, possible benefits of this approach could include increased quote competition, more accurate valuation of data, better system efficiency, and less use of Commission resources.
Under Bloomberg's approach, a number of competing data consolidators would be permitted. SROs would be required to make their data available to each consolidator on the same basis and at the same cost, but would be able to recover their costs of aggregating the data. In turn, each consolidator would have to make its data available to vendors and end-users at the same price.201
The Mercatus Center suggested a completely free-market approach, in which each SRO would make its data available on its own terms, competing consolidators would be permitted, and investors would choose the degree of transparency they wished to receive.202 In their view, arbitrageurs likely would cause prices across trading venues to equalize, so that investors might only need to subscribe to information from one market.
In light of the divergent views expressed in the comment letters to the Concept Release, and the fundamental market data issues that were raised, the SEC decided to explore this area in more depth, and to formally tap private sector expertise in the process. In August 2000, at the suggestion of former SEC Chairman Arthur Levitt, the SEC formed the Advisory Committee to assist it in evaluating issues relating to the public availability of market information in the equity and options markets.
The Chairman of the Advisory Committee is Joel Seligman, Dean of the Washington University School of Law in St. Louis. The Commission selected 25 members to represent a diverse range of perspectives, including exchanges, ECNs, broker-dealers, retail and institutional investors, and data vendors, as well as the public at large. The members of the Advisory Committee and their affiliations are set forth in the preface to this Report.
The SEC gave the Advisory Committee a broad mandate to explore both fundamental matters, such as the