Statement of Commissioners Hester M. Peirce and Mark T. Uyeda on Proposed Amendments to Exchange Act Rule 15b9-1
July 29, 2022
Today the Commission is re-proposing, in slightly modified form, amendments to Exchange Act Rule 15b9-1. As with the 2015 proposal, this re-proposal would significantly narrow an exemption from the requirement that broker-dealers register with a national securities association. Because FINRA currently is the only national securities association registered with the Commission, the proposed amendments, as a practical matter, would require affected broker-dealers to become FINRA members.
We support publication of this proposal. Soliciting further public comment on the exemption in Rule 15b9-1 is worthwhile, particularly given the significant changes in the market—and in the role this exemption plays in our market—since the rule was initially adopted several decades ago. As the release notes, this exemption, which initially allowed exchange members to trade occasionally off exchange without incurring the burden of FINRA membership, now facilitates trading by proprietary trading firms that account for significant trading activity in the equity and fixed-income markets. We hope that this proposal will allow us to understand whether this exemption has outlived its regulatory usefulness in a changed market. If it has, is the proposed approach correct, or should the Commission consider alternative approaches that would achieve the regulatory objectives described in today’s release without requiring these firms to register with FINRA?
The Commission’s proposal argues that the ability of proprietary trading firms to avoid FINRA membership raises both transparency and oversight concerns. The release explains that only FINRA members are required to report their fixed-income transactions to TRACE, and FINRA’s ability to monitor, and to enforce rules governing, cross-exchange and off-exchange equity markets activity by non-member broker-dealers is limited. The proposal, however, raises several concerns that we hope commenters will address.
First, it is not clear to us that the proposed amendments are well-tailored to the problems the proposal is purporting to solve. The release notes that these non-member firms are not required to report Treasury securities transactions to TRACE, which significantly reduces transparency in the Treasury markets. That concern may be justified, but requiring these firms to assume all of the many burdens of FINRA membership to ensure that they report their Treasury transactions seems like overkill. The Commission could take a simpler approach that conditions the exemption in Rule 15b9-1 on non-member firms reporting these transactions to TRACE, which would enhance transparency while imposing far fewer costs on market participants. What would be the advantages and disadvantages of this alternative approach? How would other market participants be affected by a decision not to require these firms to become FINRA members? Would the benefits of pursuing such an approach rather than the proposed approach better balance the costs and benefits?
Similarly, the release explains in some detail the challenges that non-FINRA member firms present to effective oversight by FINRA, but it does not explain how FINRA oversight would be a significant improvement relative to oversight by the Commission. FINRA focuses most of its resources on retail customer protection, but these non-member firms have no customers. Will adding these firms and their employees to FINRA’s supervisory responsibilities draw resources away from FINRA’s oversight of broker-dealers and their associated persons that have a significant retail customer business? Will FINRA oversight lead to improvements in market integrity sufficient to outweigh any decline in effectiveness elsewhere in FINRA’s supervisory program as resources are redirected to the oversight of these firms?
Second, although the economic analysis considers the possibility that another national securities association may arise that better fits the particular characteristics of firms affected by the amendments to Rule 15b9-1, the proposal seems incompatible with a world in which multiple national securities associations operate. Rather, the proposal seems more likely to entrench FINRA further as the sole national securities association for broker-dealers. As a practical matter, the implementation period proposed in the release would make it very difficult for a new association to be organized and registered in time to be a viable option for firms required to join an association under any amended rule. Whether FINRA can balance—in its governance structure or in its day-to-day operations—the competing interests represented by the full range of its expanded membership under this rule is an open question. We are concerned that even if this balance proves challenging, member firms will find it difficult to organize an alternative association once they are FINRA members.
Third, the proposed rule seems to reflect a view that the Commission needs to cede primary regulatory authority over broker-dealers to FINRA. We share the concern expressed by Commissioner Gallagher in his statement on the 2015 proposal that the Commission not treat FINRA as a deputy federal regulator. The assumption that seems to underlie the proposal—that FINRA should be the frontline regulator of all broker-dealers—risks sending the message that the Commission is comfortable surrendering its primary responsibility to oversee the markets to FINRA. The Commission could use the tools at its disposal to monitor the activity of firms that operate across markets but do not raise the retail investor protection concerns at the core of FINRA’s competence. The Consolidated Audit Trail gives the Commission comprehensive surveillance capabilities over the equity markets, and the Commission could use its authority to require TRACE reporting by these firms as noted above. With these tools at its disposal, the Commission could oversee these markets effectively, so what is to be gained by further expanding FINRA’s role in our markets?
Fourth, even if the proposed rule is an appropriate response to changed market conditions, the Commission recently has proposed many rule changes. We are concerned about our ability to predict the cumulative effect of these new rules and rule amendments. Most relevant to this proposal, the Commission proposed modifications to the definition of dealer in March of this year, but this proposal does not contain an economic analysis of the effect of modifying the definition of dealer. If both that rule and this one are finalized, the number of firms affected by this rule may almost double from the number of firms the proposing release estimates will be affected. The burdens of either rule on its own may force some firms out of the markets; the combined effect of the two rules together, if both are finalized, is likely to be even more dramatic. A more prudent approach might be for the Commission to determine whether it is going to finalize the dealer rule and, if it is, to observe and digest the effects of that rule on market quality before proceeding to subject even more firms to the additional costs of FINRA membership.
Fifth, the proposed rule, if adopted as currently drafted, may contribute to an acceleration in the already declining numbers of exchange-only broker-dealers. The 2015 proposal stated there were 125 non-FINRA member firms, as of March of 2015, while the current proposal states that there were 66 such firms at the end of 2021. Indeed, the proposal’s economic analysis indicates that one effect on market activity could be for these non-FINRA member firms to cease trading securities. How would a further decline affect markets and market participants?
Finally, the implementation period seems overly optimistic given the large number of firms that will need to register with FINRA in a relatively short period of time. The proposal notes that FINRA registration typically takes about six months, but it seems doubtful that FINRA will be able to process applications from five dozen or more firms within that typical time frame (particularly if the dealer proposal is finalized at the time). What is a reasonable estimate of the time that it would take FINRA to register all of the firms affected by the proposed amendments?
We look forward to commenters’ thoughts on these and other questions. Ensuring proper regulatory oversight of our markets is important, but the solution we adopt should be tailored to an identified problem.
 Statement at Open Meeting on Rule 15b9-1, Commissioner Daniel M. Gallagher (March 25, 2015) https://www.sec.gov/news/statement/032515-ps-cdmg-15b9-1.