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U.S. Securities and Exchange Commission

Speech by SEC Staff:
SEC Update: Closing the Millennium
On an Uptick

Remarks by

Commissioner Laura S. Unger

U.S. Securities and Exchange Commission

at the Third Annual Washington Conference of the Security Traders Association

March 24, 1999

Thank you for your kind introduction, Lee. I'm honored that the STA invited me back this year to give an update – from a Commissioner's perspective – on what is going on at the Commission.

Before I begin, I must recite the standard Commission disclaimer: The remarks I am about to give are my own, and do not necessarily reflect the views of the staff, the Commission, or the other Commissioners.

1998 was a year of major rulemaking initiatives, both by the Commission and the SROs. From the Commission, there was Regulation ATS, Broker-Dealer Lite, and the Aircraft Carrier. From the NASD, there was Next Nasdaq, OATS, and the Actual Size Rule.

1999 is a bit different. Both the Commission and the SROs have a narrower focus in our rulemaking. The emphasis is on more incremental change. The primary reason for this, of course, is to allow the industry to devote its resources to meeting the challenge of the Year 2000 Problem.

Year 2000

In fact, you may know, or will be pleased to find out, that the Commission has imposed a moratorium from June 1,1999 until March 31, 2000 on the implementation of any Commission rulemaking that requires major computer reprogramming by Commission-regulated entities. This moratorium will allow firms to concentrate on completing their internal remediation efforts and participating in street-wide testing.

From all indications, street-wide testing appears to be having positive results. The results from the next two testing dates – March 27th for December 31, 1999 and April 10th for January 3, 2000 – will be critical to our assessment of the industry's Y2K preparedness.

Following the end of street-wide testing, the next significant date will be April 30, when the firms send in their second round of Form BD-Y2Ks, detailing their Y2K remediation efforts as of March 15, 1999. I urge firms to timely file their Form BD-Y2Ks. The Commission already has shown its willingness to bring enforcement actions against firms for failure to file. We would not want to have to use our precious resources to bring more enforcement cases for failure to file the form. But, believe me we will, and probably won't be so understanding the second time around.

There is a Y2K component to one proposed rulemaking we are undertaking this year – an operational capability rule for broker-dealers. The general rule states that if you do not have the operational capability to carry out your functions as a broker-dealer, you may not continue to transact business. Several Commissioners, including myself, expressed concern that since the rule does not define "operational capability," it may not provide sufficient standards for broker-dealers to follow. Of course, we don't want to dictate too specifically systems standards for the industry either. I am hoping that the industry will help us flesh this definition out a bit more through the comment process before we act on the final proposal.

I don't think that anyone will argue that there's any uncertainty in the proposed Y2K component of the operational capability rule. The rule clearly defines a material Y2K problem. If on or after August 31, 1999 you have a material Y2K problem, you are presumptively not operationally capable and must notify the Commission immediately. You can remain in business until October 15, 1999, if you file a certificate signed by your CEO that you are remediating the problem and will complete your efforts by October 15th. You also must actually complete the remediation by October 15th.

The comment period on the operational capability rules closes on April 12th. I expect the Commission to act quickly after that date – at least on the Y2K component – so get your comments in soon.

I said earlier that the Commission was not implementing any new rules requiring significant computer reprogramming. However, we are doing some "deep thinking" about a number of issues. I'll briefly touch upon what I think are the most interesting – and challenging issues facing the Commission: online brokerage; market data; and options market structure.

Online Brokerage

I'm sure that as traders you've all felt the impact of increased investor participation in the markets resulting from online brokerage activity. This activity has been particularly noticeable at the opening of trading and in Internet IPOs.

The growth in online trading has been phenomenal since its inception in 1995: today, there are over five million online accounts, and over 37% of all individual investors' trade volume is entered over the Internet. These numbers are expected to continue to increase.

What does it mean for investors, the markets, and the Commission's regulatory scheme? While the Commission has been looking at discrete issues in online brokerage all along, I decided that it was time to take a look at this phenomenon as a whole.

As a result, I've set up a series of roundtables to discuss online brokerage. Participants include broker-dealers, academics, regulators, and investor advocates. One distinction that I made in developing the roundtable agenda was to distinguish between online investing and day trading. Consequently, the roundtables focus on online investing.

I held the first roundtable in San Francisco at the end of February. The second roundtable will be in New York in mid-April or early May. The third will be here in Washington in late May or early June. In the fall, I expect to publish a report to the Commission, which will include an overview of the online brokerage industry and make broad recommendations to the Commission on how we should approach certain regulatory issues raised by online brokerage.

Market Data Review

Advances in technology and the shift to direct investor participation in the markets have significantly impacted the availability and demand for market data. The Commission has the statutory obligation to ensure that quote and last sale information is available to all market participants on terms that are "fair and reasonable" and "not unreasonably discriminatory." We haven't undertaken a complete, top-to-bottom examination of the scheme for the creation, dissemination, and pricing of market data since it was established in the 1970s.

As a result, later this year we will issue a concept release on market data. It will describe in some detail how markets generate the data and transmit it to vendors, market participants, and the public. The release also will lay out the pricing scheme for the data and request comment on these issues.

Options Market Structure

In the 1975 Amendments, Congress gave the Commission the authority to decide whether certain classes of securities were ripe for inclusion in the national market system. The tremendous growth of the options markets in the past few years, the pressures for multiple trading of options, and the expected entry of new competitors like the International Securities Exchange, raise concerns at the Commission about whether options exchanges compete in an environment where all market participants have access to the best priced orders and quotes.

As you know, Chairman Levitt sent a letter to each of the options exchanges last month, requesting their initial thoughts on how best to accomplish the national market system goals of best execution and intermarket access in this new trading environment for options. We are currently evaluating their responses, and are in the early stages of formulating a plan to achieve these goals.

Moving from the abstract to the concrete, I'd like to share some thoughts on a few proposals that the Commission may act on before the millennium – which sounds far away, but is actually only about nine months from now.

Rule 15c2-11

The Commission recently reproposed amendments to Rule 15c2-11. Judging from the STA's October 1998 Survey, the initial proposal wasn't too popular with the STA membership. Question 8 of the Survey asked who should have the responsibility for insuring that the issuer information standards of Rule 15c2-11 are met. Fifty-five percent said the issuer; thirty-three percent said the NASD; one percent said market makers; one percent said broker-dealers; and ten percent said "All of the Above."

Rule 15c2-11 isn't too popular with me either. At least the reproposal more narrowly focuses the original proposal to address perceived abuses in the microcap market.

I'm still not convinced that the burden of reviewing issuer information should be placed on market makers, however. Unless one or more private entities steps forward to become an information depository, the rule could result in even less transparency and liquidity for the securities of non-reporting issuers who are the ones that can least afford it. Although the comment period ends on April 7th, I don't expect Commission to act on the reproposal until this summer at the earliest.

NASD Agency Quote Proposal

Another message that came through loud and clear from the STA Survey – not that STA members aren't always loud and clear with their message – was that members didn't like paying ECN access fees. Apparently members wanted to charge fees themselves for access to their customer limit orders. Last year's STA rulemaking petition to ban access fees when ECNs were alone at the inside quote was another classic STA less-than-subtle hint.

In adopting Regulation ATS, the Commission recognized the difficult questions that access fees raised and did what any self-respecting regulator that wanted to avoid being a rate maker would do – put the issue off until another day. As a result, Regulation ATS gave SROs the ability to establish standards regarding access fees – although the standards require Commission approval.

I won't pass on particulars of the NASD's agency quote proposal since we're in the middle of the comment period. However, I do think you raise a meritorious point – that both ECNs and market makers should be able to charge a reasonable fee for accessing their customer limit orders. At this juncture, I could not say whether the agency quote proposal would be the appropriate way to accomplish this objective.

Expansion of ITS/CAES Linkage

Last year, the Commission proposed amending the ITS Plan to expand the ITS/CAES linkage to cover all listed securities. Like virtually all of the commenters, I support the expansion in principle, and agree that the reasons for the current limitation no longer make sense. However, I recognize that there are a few details to work out before the expansion can become effective.

Specifically, the issues needing resolution include:

  • revisions to the NASD's trade reporting rules for third market makers;

  • whether the ITS trade-through rule should apply to any NASD member trading listed securities or only market makers; and

  • dealing with differences between ITS and NASD autoquoting policies for securities currently outside the linkage.

I'm confident that these issues can be worked out and the expansion could become effective later this year.

In closing, I'd like to look beyond 1999 and Y2K to mention an issue that will have our full attention next year:


I realize that firms should focus primarily on Y2K as far as systems issues. Decimalization is waiting in the wings – but is not getting the attention it should, particularly if it's going to happen next year.

Last year at this conference, I remember saying that decimalization was largely an investor-driven issue. Having had a year to think more about it – and given the inevitability of competition with foreign markets down the road – I would say that decimalization is as much a global competitiveness issue for U.S. markets as anything else.

Having said that, I fully understand that implementing decimalization will pose a significant challenge. Lately, a number of industry participants expressed concerns about the need to begin focusing on the practical issues arising out of decimalization now – particularly capacity.

It's a short, but exciting, leap from Y2K Commissioner to Decimalization Commissioner. Although I haven't decided to take the jump yet, and I'll let you know after we start the millennium, I have promised to look closely at an industry-commissioned study that is due out next month on the projected impact of decimalization on quote traffic and capacity.

Thank you for your attention, and I'd be happy to take some questions.