Statement by SEC Chairman:
Regulation NMS Proposal
Opening Statement at Open Meeting
Chairman William H. Donaldson
U.S. Securities and Exchange Commission
February 24, 2004
Today, the Commission is considering proposed Regulation NMS, which incorporates a set of four, substantive proposals on market structure and a proposal to redesignate the existing National Market System rules. When ultimately refined and adopted, Regulation NMS will result in the most significant modernization of the National Market System since the original rules were adopted after the National Market System legislation in 1975. The proposal is intended to advance the dialogue on vitally important market structure issues.
First, the proposal would create a uniform trade through rule for both exchange listed and Nasdaq listed securities. Second, the proposal would establish a uniform market center access rule and access fee standard. Third, it would prohibit market participants from accepting, ranking, or displaying orders, quotes, or indications of interest in sub-pennies. Fourth, it would restructure the way in which market data is collected, disseminated, and priced. Finally, the proposal would reorganize the rules governing the National Market System.
Soliciting public comment on these specific rule proposals is the next logical step in the deliberate and systematic review of market structure that the Commission has undertaken. The central objective of this review is to determine how the regulations governing the U.S. equity markets should be updated to account for major technological changes that have occurred since 1975. The competitive nature of our markets causes them to continually evolve, and innovative trading technologies, new market entrants, and shifting trading patterns are the direct result of this evolution. It is critical to our mission that we examine changes and trends in our markets and assess whether our regulatory regime requires adjustment. In so doing, we can help our markets retain their position as the deepest and most efficient in the world – markets that benefit all types of investors regardless of size and sophistication.
Publishing Regulation NMS does not mean that we have reached final decisions on any of the proposals’ provisions. All would agree that the issues are complex and that arriving at sound decisions requires an understanding of the often subtle ways in which the markets currently work, and the balancing of policy objectives. To inform our thinking, the Commission over the years has repeatedly sought the views of market participants and the public. Thus far, our review has included multiple public hearings and roundtables, the creation of a federal Advisory Act committee, concept releases, and the issuance of temporary exemptions intended in part to generate useful data on policy alternatives. The information and data generated by these steps have helped shape proposed Regulation NMS.
I believe that now is the time to focus comment on specific rule proposals, and that digesting comments on those specific rule proposals will help us achieve the best possible regulatory solutions. We are also seeking comment on a number of alternate approaches to those suggested by the rule proposals. In addition to seeking written comments during the comment period, we will hold hearings to further the discussion on the rule proposals and the issues they address. We will reflect the insights gained from this open process in our final rulemaking. If we adopt these or other proposals, we intend to give market participants sufficient time to adjust to their effect.
Amendments to the Exchange Act made almost three decades ago formed the basis for the modern market structure in the U.S. Specifically, we have a national market characterized by a system of competing markets rather than one centralized market where price discovery can be achieved in different systems of trading – i.e., an auction process or a quote driven dealer process – whether assisted manually or electronically. But critical to this system have been trade-through prohibitions that have fostered best execution and the protection of limit orders. These prohibitions have ensured that regardless of the trading venue participants were displaying the best bid or offer, this better bid or offer would be satisfied before a worse priced transaction in another venue was allowed to take place. The rule has protected and rewarded the posting of the best bid or offer, whether initiated by a large institution, an intermediary, or an individual.
But several recent phenomena have created problems in resolving the protection of best price in our trading system. First, new technologies made electronic trading platforms much faster and offered greater assurance of execution of a displayed order size compared to our auction markets. Second, intervening and uncertain access fees made protection of the best price even more difficult.
Certainly the Commission proposals directed toward equal charges in access to quotations, prohibiting indications of interest in less than penny increments, and the market data proposal to improve the arrangements for pricing and disseminating market data to the public, are important adjustments to improve the overall system. But in my view, the critical issue is how to capture the benefits of speed and certainty of execution, while maintaining the bedrock principle of assuring that all investors – large or small – are protected so that their better priced orders are protected.
In evaluating these rule proposals, all of us must assess whether they will enhance the core, critical components of the National Market System. These components are: (1) ensuring the best execution of investors’ orders – including precedence of best price; (2) promoting fair competition among broker-dealers and among markets; and (3) fostering the interaction of orders to help reduce the possible effects of fragmentation.
I would like to thank the staff members of the Division of Market Regulation for developing this proposal. While I will not name all the staff members who were responsible for this proposal, I would like to note that it is through their determined, careful, and unceasing work over the past several years that has brought us to this day. I now turn to Annette Nazareth, Director of the Division of Market Regulation, to elaborate on proposed Regulation NMS.