`Finn Associates Inc.
1236 Battery Ave.
Baltimore, MD 21230
Jonathan Katz, Secretary
Securities and Exchange Commission
450 Fifth St. NW
Washington D.C. 20549
March 5, 2000 Release No. 34-42208; File No. S-7-28-99
Dear Mr. Katz;
I am an individual online investor and a member of the class discriminated against by NYSE and NASD/Nasdaq nonprofessional information access royalty fees that are applied exclusively to online investors. My background as a former Chief Economist and Senior Economic Advisor for the SEC (1969-1982) and Chief Economist for NASD (1973-1995) qualifies me to comment on the issues raised in this release. Although I am currently an outside director on the Boards of Knight/Trimark Group Inc. and Ameritrade Holding Corporation, these views are my own and should not be attributed to others affiliated with those companies.
In the subject release (The Release), the SEC solicits comment respecting changes in regulatory processes for National Market System (NMS) market information systems. The release describes the SEC's perception of market data system regulatory problems and proposes numerous questions for the focus of comments.
In prior comments to the Commission1, I have petitioned the Commission to correct discriminatory and anti-competitive fees and practices of National Market System (NMS) plans that regulate SRO (self-regulatory organization) exclusive processors. I request that those petitions and comments be incorporated by reference in this letter of comment. In those comments I made the following requests for relief.
(1) The Commission should eliminate the Nasdaq/Amex and NYSE market data nonprofessional access fees that are applied only to online investors. They are anti-competitive, they discriminate unfairly against such investors and their brokers; they are not necessary to accomplish the purposes of the Exchange Act; and they are contrary to the intent of Congress as expressed in the 1975 amendments to the Exchange Act.
(2) The Commission should require NASD/Nasdaq, NYSE, and Amex to escrow the receipts from the discriminatory nonprofessional investor fees to prevent further injury to online investors and the brokers that serve them.
(3) The Commission should require the NASD and NYSE to include in market data revenue sharing arrangements those non-SRO market participants whose efforts produce trade report and quotation data. Exclusion of such non-SRO market participants, is arbitrary and anti-competitive. It discriminates unfairly against non-exchange intermediaries and non-SRO direct investment facilities that primarily serve individual investors and in favor of SRO facilities and facilities that regulation insulates from both anti-trust laws and competitive pressures.
(4) The Commission should consider requiring that market data system plans be user (as opposed to SRO) controlled as has been the case for NSCC (National Stock Clearing Corporation). In contrast to the price discrimination, excessive charges, anti-competitive revenue sharing problems and constant bickering that afflicts SRO controlled systems, the user-controlled NMS clearing and depository systems have functioned as Congress intended all NMS systems to function. They should be the model applied by the SEC to the NMS market data system.
(5) The Commission should not permit SRO exclusive processors to include in information producer (marketmaker) subscriber contracts anti-competitive restrictions on marketmakers and other information producers that force them to transfer to the SRO exclusive processor all proprietary rights to the trade report and quotation information input into NMS systems. This prevents unnecessarily any and all competition in the collection and/or distribution of securities market data.
I request that these comments respecting market data system issues, included in earlier submissions, be considered by the Commission and incorporated here by reference. The following comments expand on the above views.
SEC's Unger Report Documents Fee Discrimination against Online Investors
The Commission's recently published report on online trading, the "Unger Report"2, documents quotations access discrimination confronted by online investors. The Report states: "Contrary to their practice off-line, the CTA and NASD do impose fees for on-line firms' delivery of real-time market data to customers via the Internet." 3
Investors who access real-time quotation and last sale report information electronically through their PC'S (personal computers) are charged fees; investors who access the same information through human voice (telephonic) communication from their broker are not charged access fees.
Moreover, online customers with more than one account are charged for each account. Imagine that! Because of SEC regulation that protects SRO"s from anti-trust, an investor with a regular account, IRA account and a 401k account with the same broker pays three Nasdaq, Amex and NYSE royalty fees for access to realtime quotation information.
Whether the NASD royalty fees, applied to online customer accounts and usage of information, are charged directly to the customer, or charged indirectly through broker commissions, this price discrimination and the related restraint of investor access to quotation information is inconsistent with fundamental Exchange Act and Anti-Trust law principles. Also, whether the fees are $3 per account per month or 1 cent per quote, they are discriminatory.
Discriminatory Fees should be eliminated
Non-professional quotation access fees, if necessary at all, should be applied to all investors. How the information is accessed from intermediaries (vendors, brokers, media etc.) appears to be unrelated to the costs of SRO activities and highly related to competition. Consequently such fees are an unnecessary restraint on communications between brokers and their customers and on competition among brokers and vendors.
By the Commission's own calculation, the scope of this discrimination was 14 times more in 1998 than in 1994 for access to NASD/Nasdaq quotations and 10 times more for access to CTA (NYSE) quotations. In 1998, the discriminatory fees were $31 million.4 If we include the broker administrative cost of monitoring investor access to quotations and the economic cost of lack of access of investors, unwilling to pay NASD/ NYSE access fees, the total 1998 estimated cost easily approaches $50 million.
The Unger Report, while documenting this differential treatment of online investors vis-a-vis other investors, focuses upon discrimination between non-professional and professional investors. While non-professional fees may be exorbitant when compared to professional fees, this comment is focused upon the unnecessary, discriminatory, anti-competitive impact of imposing access fees on a sub-set of investors because of the way they access information rather than because of differences in the cost of providing that access.
The discrimination against online investors, being sheltered by the regulatory process, is in the fine print of SRO subscriber applications and agreements that qualify online investors for the "Privilege of Receiving Last Sale Information & Bond Last Sale Information as a Nonprofessional Subscriber."(Emphasis added) The limiting clause, almost identical in Tape A (NYSE), Tape B (Amex, Regional exchange) and NASDAQ customer access agreements, prohibits brokers from communicating quotation and last sale information to customers through any electronic means (i.e. without payment of fees and a signed customer agreement).
On the production side, SRO contracts with information producers, including marketmakers and others, require such producers to transfer all proprietary rights in the information to the SRO. This protects SROs from competition in the information collection and distribution processes. Regulation is sheltering these anti-competitive provisions of SRO subscriber agreements from both competition and anti-trust enforcement.
Market participants, including retail brokers, marketmakers and ECN,s, whose activities produce the market information being sold, incur costs of production. However, they are arbitrarily excluded from revenue sharing arrangements. Because competition is restrained artificially, individual investors, who are served by these intermediaries are further disadvantaged by the anti-competitive impact of these other anti-competitive practices of the SRO exclusive processors.
What is most regrettable, these restraints on competition have the greatest impact upon small investors who individually do not have sufficient business to avoid these adverse anti-competitive impacts. The economic benefits of productivity of the new computer technologies that lower the costs of small investor information processes are being captured and retained by SRO's through their exclusive information processors; and used to finance a variety of SRO activities. The competitive incentive to attract small investor business-- the only process through which small investors can obtain the benefits of productivity associated with the aggregation of small order flow-- is thwarted.
Empowered by government charters, SRO exclusive processors in effect are expropriating order flow value from small investors.
Restraints on Competition Disadvantage Individual Investors
Competition is the most efficient process through which small investors can protect themselves from unfair charges and practices. Unlike institutional investors, small investors individually do not possess the economic power to achieve the efficiencies available in the trade execution processes. Nor do they possess the resources to lobby for their interests. Unfortunately, while the Commission frequently pays lip service to competition, the Commission's economic policy actions suggest that it does not believe this proposition.
In the subject matter, SEC regulation has created SRO market data monopsonies and monopolies that are provided safe harbors from anti-trust and fair trade laws and from competition in the collection and distribution of trade and quotation information and in the operation of trade execution facilities.
SRO's have monopsony power to force participants to supply to the SRO's market information and to force those participants to give up all proprietary rights to the information provided. SRO's also have the monopoly power to dictate royalty or access fees to retail and intermediary users of the information. Because SEC regulation, by default, creates central information processors, competition in the collection and aggregation of information is pre-empted by the resulting monopsonistic and monopolistic structure.
SRO's, with diverse memberships, proprietary organizational goals and monopolistic tendencies, have been operated like for profit companies, using monopoly surpluses to expand their range of market activities. How can investors and market participants expect SRO exclusive processors to continually review and reasonably regulate the SRO's own market data fees and contractual arrangements imposed upon the users (market intermediaries and investors) of market data information?
The answer is that they cannot. SRO's have been able to utilize the monopoly and monopsonistic power that has resulted to further their own organizational goals. Essentially they operate like for profit companies with market data profit centers. They distribute surpluses as rebates and discounts to members and use them to subsidize questionable competitive initiatives against other SRO's or other, non-SRO market participants.
User Control of NMS Systems is needed
Entities with this massive power must be user-controlled and not-for-profit like NSCC (National Stock Clearing Corporation) and subject to direct SEC review as securities information processors. The self-regulatory model has failed; and regulation has failed to apply the public utility type regulation intended by Congress. Clearly, the success of the NSCC user controlled experience stands in stark contrast to the SRO controlled NMS market data system problems detailed in the Release.
Regulatory Record is Inadequate
The need to discriminate against online investors, investing for their own account, or to employ anti-competitive practices must be supported by something more than an undocumented proclamation by an SRO or the SEC that such fees and practices are found to be "in furtherance of the purposes of the Act". At a minimum, public hearings with a hearing report containing differential cost and revenue data, rates of return, the Commission's reasoning and other related information used in finding such rate discrimination reasonable must be entered in the public record as intended by Congress in the 1975 Amendments to the Exchange Act of 1934.5
Urgent action is needed to correct this abhorrent fee discrimination against online investors and the restraints of competition that prevent competition from establishing a competitive market data revenue sharing process among market participants. Regulatory delay has already cost online investors tens of millions of dollars in patently unfair charges. The cost to investors of the distortions created by SRO anti-competitive practices cannot be measured.
A regulatory quagmire should not further delay correction of such discrimination in fees and practices.
Thank you for your consideration of this comment.
Gene L. Finn
1 See Letters to the SEC from Gene L. Finn dated: July24, 1997, File No. S7-16-97; May 1, 1998 SR-NASD-98-17; June 17, 1998, File No. SR-CTA/CQ-97-3; March 30, 1999, Rel. No. 34-40869; September 21, 1999, File No. SR-CTA/CQ-99-02
2 On-Line Brokerage: Keeping Apace of Cyberspace, Securities and Exchange Commission , p.47.
3 On-Line Brokerage: Keeping Apace of Cyberspace, Securities and Exchange Commission , p.47.
4 See the Unger Report, p. 54.
5 See Legislative History of Securities Acts Amendments of 1975, House Committee on Interstate and Foreign Commerce, May 1975, p.93. See also House Conference Report No. 94-229, May 19, 1975, p.93 and Securities Acts Amendments of 1975, Report of the Committee on Banking, Housing and Urban Affairs, United States Senate, Senate Report 94-75, P. 11.