Prepared Remarks at the Meeting of SEC Investor Advisory Committee
June 10, 2021
Good morning. Thank you Jennifer, Heidi, and all the committee members for having me. I enjoyed meeting with members of the Executive Committee yesterday and am thrilled to meet the whole committee for the first time. I’m grateful for the members’ time and willingness to represent the interests of American investors.
I know this committee has weighed in on a variety of policies that are of great importance to the agency and to the investing public. Every day, I’m motivated by working families and how they’re served by the agency’s mission.
At the heart of our mission and our work protecting investors — from new investors exploring the stock market for the first time to retirees living off their pensions. I look forward to your recommendations on representing investors’ interests in areas as diverse as climate risk disclosures and market structure.
On today’s panels, I know you’ll be discussing issues related to best execution and executive stock ownership. I look forward to seeing the readouts on these topics. In that regard, I wanted to share some thoughts about how I’m thinking through these matters.
First, let me turn to the requirements for best execution in the context of the National Best Bid and Offer (NBBO).
Broker-dealers are obligated to seek the best execution for their customers’ orders — not just better execution. I’ve been thinking about these issues a lot in the wake of January’s market events, which brought more attention to payment for order flow.
It’s interesting to note that the United Kingdom, Canada, and Australia don’t allow broker-dealers to route retail orders to wholesalers in return for payments. The European Securities and Markets Authority has also raised concerns about these potential conflicts of interest in payment for order flow and best execution.
Again, it’s best execution — not just better execution. But it’s best execution in comparison to what?
That brings me to the NBBO. In fulfilling the requirement of best execution, brokers must consider, among other factors, prices currently being quoted. The NBBO is designed to aggregate information across different exchanges. I believe there are signs, however, that the NBBO is not a complete enough representation of the market.
First, as evidenced in January, nearly half of the trading interest in the equity market either is in dark pools or is internalized by wholesalers. Dark pools and wholesalers are not reflected in the NBBO. Moreover, the NBBO is also only as good as the market itself. Thus, under the segmentation of the current market, nearly half of trading along with a significant portion of retail market orders happens away from the lit markets. I believe this may affect the width of the bid-ask spread.
Further, as it relates to the lit markets, while the definition of odd lots is planned to change under the SEC’s 2020 Infrastructure rulemaking, the NBBO still doesn’t include many of the exchange prices, such as odd lots and non-displayed orders. Additionally, by SEC rule, the NBBO must be priced in penny increments.
Wholesalers are able to transact at sub-penny increments. As a result, wholesalers may operate on an unequal playing field when competing for order flow.
I’ve asked staff to make recommendations for the Commission’s consideration on best execution, Regulation NMS, payment for order flow (both on-exchange and off-exchange), minimum pricing increments, and the NBBO, with the aim of continuing to make our markets as efficient as possible.
Next, I’d like to discuss executive stock ownership and the means by which insiders — CFOs, other executives, directors, and senior officers — sell shares in the companies with which they’re affiliated.
The core issue is that these insiders regularly have material information that the public doesn’t have.
When I started out in finance, the accepted practice was that such insiders would limit their transactions to what was known, then and now, as open trading windows: limited periods of time following quarterly earnings announcements and other major company disclosures.
About 20 years ago, the SEC further addressed this issue in Exchange Act Rule 10b5-1. This rule provided affirmative defenses for corporate insiders and companies themselves to buy and sell stock as long as they adopt their trading plans in good faith, before becoming aware of material nonpublic information.
In my view, these plans have led to real cracks in our insider trading regime.
Thus, I’ve asked staff to make recommendations for the Commission’s consideration on how we might freshen up Rule 10b5-1.
First, when insiders or companies adopt 10b5-1 plans, there’s currently no cooling off period required before they make their first trade. I worry that some bad actors could perceive this as a loophole to participate in insider trading.
Proposals to mandate four- to six-month cooling-off periods have received public, bipartisan support from former SEC Chair Jay Clayton and current Commissioners Caroline Crenshaw and Allison Herren Lee. I believe this approach deserves further consideration.
Second, there currently are no limitations on when 10b5-1 plans can be canceled.
As a result, insiders can cancel a plan when they do have material nonpublic information. This seems upside-down to me. It also may undermine investor confidence.
In my view, canceling a plan may be as economically significant as carrying out an actual transaction. That’s because material nonpublic information might influence an insider’s decision to cancel an order to sell. Thus, I’ve asked staff to consider limitations on when and how plans can be canceled.
Third, there are no mandatory disclosure requirements regarding Rule 10b5‑1 plans. I believe more disclosure regarding the adoption, modification, and terms of Rule 10b5‑1 plans by individuals and companies could enhance confidence in our markets.
Fourth, there are no limits on the number of 10b5-1 plans that insiders can adopt. With the ability to enter into multiple plans, and potentially to cancel them, insiders might mistakenly think they have a “free option” to pick amongst favorable plans as they please. I have asked staff to consider whether there should be a limit on the number of 10b5-1 plans.
Make no mistake: As the rule stands today, cancelling or amending any 10b5-1 plans calls into question whether they were entered into in good faith. If insiders don’t act in good faith when using 10b5-1 plans, those plans will not offer them an affirmative defense.
In addition, I’ve asked staff to consider other potential reforms to the rule, including the intersection with share buybacks.
Many companies may already do these things as they’re considered best practices for 10b5-1 plans. I believe, though, that our capital markets might be better served if these practices were consistently required.
These issues speak to the confidence that investors have in the markets — that everybody, from working families to big institutions to insiders, has a level playing field. Anytime we can increase investor confidence in the markets, that’s a good thing.
In closing, I’d just like to thank you all again for representing the interests of investors. Again, I look forward to hearing the readouts from your panel discussions. I’m happy to leave some time for questions.
 See, e.g., CFA Institute, “Payment for Order Flow in the United Kingdom” at 1 (2016), available at https://www.cfainstitute.org/-/media/documents/article/position-paper/payment-for-order-flow-united-kingdom.ashx.
 See Joint CSA/IIROC Consultation Paper 23-406, “Internalization within the Canadian Equity Market” at 8 (March 12, 2019) (“UMIR 6.4 requires that trades by marketplace participants and related entities, subject to some exceptions, are executed on a marketplace. The main policy objectives of this provision are to strengthen liquidity, support price discovery and contribute to transparency. UMIR 6.4 is relevant to internalization in the context that in jurisdictions such as the United States, the execution of retail orders can occur off-marketplace. This notable difference is a contributing factor in how the Canadian market has evolved and is a consideration in our review and discussion of any future policy work.”), available at https://www.osc.ca/sites/default/files/pdfs/irps/csa_20190312_internalization-within-the-canadian-equity-market.pdf.
 See Australian Securities & Investments Commission Market Supervision Update Issue 45, available at https://asic.gov.au/about-asic/corporate-publications/newsletters/asic-market-supervision-update/asic-market-supervision-update-previous-issues/asic-market-supervision-update-issue-45/.
 See ESMA Newsletter - Nº21 (Feb. 26, 2021), available at https://www.esma.europa.eu/press-news/esma-news/esma-newsletter-n%C2%BA21.
 See Jay Clayton, Letter to Rep. Brad Sherman (Sept. 14, 2020), available at https://www.sec.gov/files/clayton-letter-to-chairman-sherman-20200914.pdf; Caroline Crenshaw and Daniel Taylor, “Insider Trading Loopholes Need to Be Closed” (Mar. 15, 2021), available at https://www.bloombergquint.com/gadfly/insider-trading-loopholes-need-to-be-closed; and Allison Herren Lee, Letter to Sen. Elizabeth Warren (April 14, 2021), available at https://www.warren.senate.gov/imo/media/doc/Warren%20et%20al%20-%20Rule%2010b5-1%20-%20ES159896%20Response.pdf.