Speech by SEC Commissioner:
Market Information: Searching for Consensus
by Commissioner Paul R. Carey
U.S. Securities & Exchange Commission
Twenty-Eighth Annual Securities Regulation Institute
January 25, 2001
Good afternoon. Before coming here, I requested that Enforcement complete an investigation of the City of Coronado. Interestingly, the staff discovered that, in 1886, the Coronado Beach Company sold 350 lots in this area for a total of $110,000.00. It is my understanding that the Division of Corporation Finance believes that even though the conduct pre-dated the `33 Act by almost 50 years, the offer and sale of the lots violated Section 5. As a result, Enforcement will be filing a case against the Beach Company and we expect the seizure of this hotel, which will act as the future headquarters of the SEC.
Today, I have been asked to speak about some of the important issues that the Commission will face in the coming year. While the Commission has spent the past year addressing the structure of the U.S. securities markets, one of the more difficult issues that remains is the manner in which market information is disseminated. Specifically, the debate concerns market data:
- who owns it?
- how should it be disseminated to the public? and
- what is the right amount of money to charge for this data?
While the Commission created a Market Information Advisory Committee last year to examine these issues, I think that the Commission's consideration of recent proposals has provided some guidance on where the debate is headed. Before I begin, I need to mention that the views I express today are mine alone, and are not meant to reflect the views of the SEC or its staff.
Market Information Debate
The debate over market information may be less familiar to some of you who spend the majority of your time structuring capital raising transactions. Market information, or market data, is the price and size of offers to purchase or sell securities, and completed transactions that have occurred on an exchange, market maker, or electronic trading system.
Market information is the life-blood of our markets. The need for it was crucial to the formation of stock exchanges. In fact, the Buttonwood Agreement that formed the basis of the New York Stock Exchange was driven by a need for price discovery -- being able to understand the demand for a particular security, and being able to successfully access that demand. Until the 1970s, price discovery generally was performed on the floors of the various stock exchanges, where brokers met to buy and sell securities.
By the 1970s, however, it was clear that the markets were nearing a crisis. Fixed commissions and barriers to market access worked against the development of a fair and efficient market system. Dominant markets withheld pricing data, and used it to their competitive advantage. Markets were significantly fragmented. Without effective linkages, better prices in other markets could not be accessed.
In response, Congress passed the Securities Exchange Act Amendments of 1975. In these Amendments, Congress directed the SEC to facilitate the establishment of a national market system for securities. Congress granted broad powers to the Commission to promote competitive forces, eliminate regulatory restrictions, and ensure that similarly situated persons or classes were treated equally. The `75 Amendments envisioned a new national market system built on five principles:
- fair competition;
- price discovery;
- best execution; and
Congress also stated that communications systems providing consolidated market data would form the heart of the national market system. Under the direction of the SEC, self-regulatory organizations, like the NASD and New York Stock Exchange, together developed and funded systems for disseminating a highly reliable, real-time stream of consolidated market information throughout the United States. For twenty-five years, this framework served investors well.
Within recent years, however, advances in technology have allowed new competitors to enter the marketplace, vastly changing its very structure. During this time, electronic communications networks, or ECNs, created order-matching systems that allow for fast, efficient executions. In 1998, the Commission responded by establishing new regulations for these "alternative trading systems." Under these rules, the ECNs have flourished, with the largest ECNs capturing significant market share in a relatively short time.
The emergence of ECNs has truly changed the competitive environment. In fact, the existing market centers fear that these new competitors may pose a threat to their very existence.
Nasdaq and NYSE Responses
In responding to the new competition, the two dominant market centers, Nasdaq and the New York Stock Exchange, have not stood idly by. Among other things, both are exploring the option of converting to for-profit corporations. One of the major issues concerning this possible conversion involves their proper role in providing consolidated market information.
Market information is valuable to Nasdaq and New York Stock Exchange in two ways:
- First, market information attracts business. Investors are interested in accessing deep, liquid markets, and the information of what orders exist on a market, in many ways, represents the intrinsic value of that market center.
- Second, market information can be a source of revenue.
As for-profit corporations, both entities would have an increased economic interest in generating revenues from the sale of market data.
The markets have already made proposals to strengthen their control of this data. For instance, New York's market data proposal would allow market centers to stream data to competing consolidators, who, in turn, would provide consolidated data to whomever wants it -- brokers, institutions, or private investors. New York's proposal would allow it to wholly control how its data is disseminated. Approximately 80% of all trades in NYSE-listed securities occur on New York. Given that, the NYSE's data stream would prove valuable to both it, and the investors who would pay for it.
The Nasdaq market also plans to generate revenues from market data through the establishment of a trading facility, known as SuperMontage. The SuperMontage proposal, however, ran into stiff opposition from the ECNs. Under SEC rules and due to the structure of the Nasdaq market, ECNs and other market participants are required to send their best bids or offers in a security to an SRO, like Nasdaq. Nasdaq then acts as the consolidator of market information. One of the ECNs, Instinet, argued persuasively that Nasdaq's competitors should not be required to send their market data to Nasdaq because Nasdaq's system would receive the liquidity of their orders, and also collect fees based on this data. As a result, the Commission approved SuperMontage with conditions and presumptions that leave open the question of what entity, or entities, will collect and disseminate Nasdaq market data to the public.
The issue of who owns and disseminates market data also has been important in the Commission's consideration of the NASD proposal to establish a trade reporting facility for corporate bonds. For those not familiar with this proposal, the reporting facility will further the Commission's goal of enhancing price transparency in the debt markets. Originally, the NASD proposed that Nasdaq would act as the collector of the market data. The Bond Market Association and other commenters, however, vigorously opposed Nasdaq acting as the collector of the information. They argued that Nasdaq should not own the market information, nor have the right to charge fees for the data. In response to these concerns, the proposal was amended so the NASD, rather than Nasdaq, would be the collector of the data.
The Bond Market Association also has argued that the Commission should clarify that there is a difference between reporting data and historical data, and that market participants, not the NASD, own the historical data. The NASD has responded to this issue by noting that its proposal only involves the reporting of transactions, not historical prices. In this way, the NASD argues there will not be any restrictions on entities collecting and distributing historical data for commercial purposes.
The Debate Going Forward
It is obvious that the market data issue will continue to be hotly debated during the next year. While I am optimistic that members of the Advisory Committee will shed much light on this issue, the Commission ultimately will be required to ensure that any resolution is consistent with the requirements of the Exchange Act. Given the extensive debate that has occurred during the Commission's consideration of SuperMontage and the bond trading proposal, I think there is some guidance on how this issue ultimately will be resolved.
First, it is clear that no one organization has the exclusive right to perform the function of collecting and disseminating market data to the public. The opposite also is true -- at this point, no entity will be denied the opportunity to compete to be a provider. In the coming year, the NASD will renegotiate the plan for disseminating market data for Nasdaq securities, and the plan participants will have a significant role in deciding exactly how it is structured. If the NASD and the plan participants cannot reach agreement, the Commission has stated that it will intervene and determine the appropriate plan -- a prospect that I hope will push negotiations to a successful resolution.
Second, the Commission most likely will be presented with a more market-oriented approach to disseminating market data. Many people have emphasized that advances in technology may allow for multiple consolidators of market information. Under this approach, the consolidators would be subject to certain minimum standards established by the Commission. Presumably, market forces would drive these consolidators to provide the best information at the lowest cost to their subscribers.
Because of advances in technology, I believe a more market-oriented approach holds great promise. Even in the absence of specific rules, market participants have been building their own inexpensive, high-speed linkages to market centers. The major question is whether this approach can be extended to the marketplace as a whole. For the Commission, the key issue will be how to structure a market-oriented system to ensure that the markets do not revert to the practices of the early 70s. Specifically, under a market-oriented approach market centers with significant liquidity may have the ability to wield monopoly-like power over the selling of their data. Market centers could even charge different rates depending on who bought the data, or based on the type of data provided. In weighing this approach, the Commission will need to ensure that the dominant market centers provide non-discriminatory access and, at the same time, charge reasonable rates for the data. While establishing rules for non-discriminatory access should be relatively easy, ensuring reasonable rates is a tremendously difficult issue. But I believe one thing is certain -- the Commission must avoid acting as a ratemaking board for market data fees.
Third, any plan should ensure the continued existence of a national best bid or offer, or NBBO, in a security. Some have questioned the continued utility of an NBBO in a decimal trading environment. I believe, however, that the inability to discover the best prices in the national market would be a major step backwards. The difficult issue to answer is how to ensure competition among consolidators, and, at the same time, the existence of a central processor.
- Could the markets create a neutral processor that would not interfere with market center competition?
- Should a Super-SRO be created?
- Could a trade-through disclosure rule be created for the equity markets that would require brokers to both know and disclose to customers when their orders are not filled at the best price in the market?
- What is the right amount of money to charge for this data?
While the issue of a consolidated quote is a difficult one, I hope the Advisory Committee will be able to address it.
Fourth, any new market data structure must not come at the expense of transparency. Increased transparency is something that everyone agrees upon -- it improves our markets by leveling the playing field for all investors, large and small. Certainly, our markets are strengthened by ECNs posting the depth of their book on websites. In addition, I am encouraged by the increased transparency offered by SuperMontage, and New York's plans to provide more depth of market information. Moreover, I believe that these improvements are vitally important in a decimal environment.
Finally, any market data plan must provide for adequate funding of the regulatory agencies or agency that will be responsible for regulating and surveilling the markets. Market data fees currently account for anywhere from 14% to 45% of SRO revenues. The SROs could not bear the loss of this revenue without creating new sources of funding.
In conclusion, I look forward to the Advisory Committee's report that is expected later this year. It is my hope that the industry can reach consensus on a model, or alternative models, for addressing the problem of how the U.S. markets can cheaply and efficiently disseminate market data to investors. It is an exciting time of innovation, which should result in greater access, increased competition, and improved transparency of the markets. In any event, these are critical issues, the resolution of which will shape the structure of the securities markets for years to come. I look forward to the debate.