FOR IMMEDIATE RELEASE 99-120 In a Major Speech on the Structure of the Securities Markets, SEC Chairman Arthur Levitt Calls for Greater Competition and Innovation as Markets Adapt and Respond to New Technologies Levitt Calls for Constructive Industry Dialogue to Trump Parochial Interests New York, NY, September 23, 1999 -- In a major speech delivered at Columbia Law School today, Securities and Exchange Commission Chairman Arthur Levitt discussed the enormous changes occurring in today's securities markets. He called for greater competition and innovation as markets adapt and respond to new technologies. Importantly, Chairman Levitt made clear that as we respond to these challenges, the principles of integrity, quality, and fairness must not be lost to parochial concerns. Chairman Levitt said, "We have an opportunity today that I don't think we'll have again in our lifetime -- to realize the vision for a true national market system -- one that embraces our future as much as it honors our past." Chairman Levitt outlined the key issues and challenges facing the industry: demutualization of the national exchanges; the impact greater competition is having on order flow, liquidity, and execution costs; the imperative to interlink market centers; and more broadly, the challenge to provide investors with the efficiency of central markets without sacrificing competition and innovation. Chairman Levitt made the following key points: * Role of government is to foster competition, not dictate ultimate market structure * ECNs are an important development, but access fees must be addressed * Demutualization must embody effective self-regulation * Options markets are more competitive but change is still needed * NYSE Rule 390 should not be a part of our markets' future * Market participants should consider if technology offers ways to achieve the efficiencies of central markets while fostering competition and innovation Role of the Government and Key Developments in Market Structure: Chairman Levitt discussed how the markets have evolved these past 25 years. The Commission, Chairman Levitt said, has sought "to establish, monitor, and uphold the framework that gives competition the space and sustenance to flourish. Progress has sometimes been frustrated by narrow interests and that's when it's been necessary to invoke pragmatic regulation." Chairman Levitt cited the impact of Congress's call in 1975 to create a national market system coupled with the SEC's Order Handling and Alternative Trading Systems Rules, established in 1997 and 1998, respectively. Together these measures foster competition and price transparency, reduce price spreads and execution costs, and promote innovation, such as the emergence of Electronic Communication Networks (ECNs). Emergence of Electronic Communication Networks: Chairman Levitt said, "ECNs have been one of the most important developments in our markets in years -- perhaps decades. ECNs present serious competitive challenges to the established market centers and must be able to compete with traditional exchanges and dealer markets in an environment free from unfair advantages or unreasonable barriers." Chairman Levitt discussed the responsibilities of ECNs, such as the need to confront the consequences of a market downturn and the need to handle temporary as well as extended periods of extremely high order flow. He also made clear that the Commission will not hesitate to take action against ECNs when they fail to correct capacity deficiencies. Chairman Levitt addressed ECN fees, saying, "While it's clear ECNs are subject to today's invigorated competition, it is increasingly evident that the fees they charge to access their quotes are not. Because brokers often have little choice but to pay whatever fee is charged by the ECN, competitive pressures on these fees have been all but paralyzed. ECN access fees stand alone in an otherwise fee-less arena. I believe this imbalance in the marketplace must be redressed. I have asked the Commission's staff to recommend the best approach towards restoring a fair, competitive balance in this important area." Demutualization Must Embody Effective Self Regulation: Chairman Levitt discussed the need for effective self regulation as the New York Stock Exchange and the National Association of Securities Dealers consider demutualizing. He said, "The potential for conflicts of interest that may arise if the SRO is enmeshed within a for-profit corporation must be defused. At the very least, I believe that strict corporate separation of the self-regulatory role from the marketplace it regulates is a minimum for the protection of investors in a for- profit structure." He continued, "Some have suggested one SRO that regulates all markets, alleviates conflicts, and reduces redundancy, paperwork, and operational costs. Others line up behind a model where each market would maintain the regulatory and surveillance function solely for its own market -- but member regulation, sales practices, and all other aspects of intermarket trading would be overseen by a single SRO. While I certainly am not wedded to any particular model at this point -- a great deal more thinking needs to be done -- this latter approach is intriguing. Any restructuring, however, must ensure that the self-regulatory obligation be vigorously fulfilled, adequately funded, and dedicated to serving the public interest." Competition Sweeping the Options Markets: Chairman Levitt noted that the same dynamic competition and sweeping reform unfolding in the equity markets is beginning to take place in the options markets. He indicated that in the last month, more than 130 new multiple listings have been announced. In four of the five actively-traded options the SEC examined, effective spreads fell between 22 and 44 percent since these options went from single exchange trading to multiple listings. But, he noted, "in the name of more competitive, more connected, and more liquid options markets, we still have a ways to go." Chairman Levitt called on the options markets to: * Develop the fundamental standards reflected in our equity markets * Establish greater linkages to encourage the best possible execution of customer orders * Address swiftly the short-comings in their capacity to handle options quote traffic * Ensure that the best quote in any market is visible and accessible * Promote more competition Competition vs. Centrality: Chairman Levitt said, "Greater competition in all of our markets has not arisen without debate. Depending on who you talk to, the growth in new market entrants has induced `fragmentation.' Others favorably characterize it as providing `heightened competition.' In reality, neither description tells the whole story." He continued, "The fact is, multiple markets have existed since the earliest days of trading. And we have long believed that different market centers must be connected. Today, is there fragmentation in the sense that there are separate, isolated markets with reduced liquidity? I think not. But is there fragmentation in terms of multiple pools of liquidity competing for orders based on transparent quotes and prices? Absolutely." Chairman Levitt cited the fact that competition has never been greater, execution costs have never been lower, and spreads have never been narrower. In light of this, he said, "Now is the time to ask ourselves: is there a valid justification for a rule [NYSE Rule 390] that appears to be more a barrier than a benefit? As I see it, Rule 390 may very well be on its ninth life. And how, under any circumstances, could such an anticompetitive rule be sustainable should the NYSE become a for-profit corporation? While rulemaking is certainly an option, one way or another, this rule should not be a part of our future." Background statistics on NYSE Rule 390: * The rule prohibits NYSE members from effecting transactions in the NYSE-listed securities in the OTC market. * An analysis of Nasdaq data shows that 29 of 30 stocks in the Dow Jones Industrial Average are subject to Rule 390. * Rule 390 stocks accounted for 48 percent of NYSE trading volume in August 1999. Linkages and Centrality Chairman Levitt said, "In zealously advocating competition, however, I do not dismiss the issue at the core of arguments against fragmentation -- the intrinsic value of centrality. Central markets have always had an allure. Basic economics tells us that the greater supply and demand that congregate in one place, the more efficient the price-setting mechanism." Chairman Levitt continued, "Now, more than ever, is the time to revisit the historic conflict between competition and centrality. Tonight, I call upon the leaders of the securities markets, particularly the public representatives on exchange boards -- to begin a public dialogue on whether technology offers ways to garner the benefits of centrality without stifling competition. The guiding principles are clear: price discovery and best execution should be enhanced; liquidity should be fostered; interaction between institutional and retail trading should be maintained; market innovation should be encouraged; and competition among market centers, above all else, should remain vigorous and dynamic." Chairman Levitt said, "For instance, should we consider pulling together electronically all limit orders and quotes displayed internally in the various markets -- creating a `virtual limit order book.' This approach may offer the advantage of exposing all markets' limit orders to the public, thereby allowing investors to better ascertain liquidity across the market. Should this be combined with an ability to access those orders electronically? To encourage quote competition, should dealers be expected to execute quotes previously displayed in the virtual book before trading at that price with customer orders themselves? And to promote innovation in individual markets, should markets still be able to cross their agency orders internally at the best price, regardless of other orders at that price on the book?" He added, "These are controversial questions, without easy answers. But these are the types of questions that many in the industry already are independently considering. Now, more than ever, is the time for thoughtful, constructive, and far-reaching thinking. Neither our markets nor our investors can afford today's opportunity for change to be dominated by parochialism. The public spirit must reign." The Future of the Markets: Chairman Levitt concluded, "Let us not look back at this time as an opportunity not seized, an endeavor not realized, a challenge not taken, or a frontier not explored. We should not indiscriminately jettison the features of yesterday any more than we should allow entrenched interests to stonewall new market entrants and technologies that offer us superior efficiencies. Only by embracing change, renouncing obstructive impediments, and harnessing innovation and competition will we guarantee to our investors, our economy, and our nation the world's most successful capital markets." # # #