SEC Proposes Amendments to Rules on Equity Trading

The SEC issued four new rule proposals aimed at reforming the structure of U.S. capital markets.

Regulation Best Execution

The SEC's Regulation Best Execution proposal would establish a best execution regulatory framework for broker-dealers, government securities broker-dealers and municipal securities dealers (collectively, "Covered Entities"), and enforce written policies and procedures designed to comply with the best execution standard. Under the proposal, such policies and procedures would be required to be reviewed at least annually and Covered Entities would be required to preserve records made pursuant to proposed Regulation Best Execution. Covered Entities would be exempt from the requirements of Regulation Best Execution in such instances where (i) another Covered Entity is executing a customer order against the Covered Entity's quotation; (ii) an institutional customer, exercising independent judgment, executes its order against the Covered Entity's quotation; or (iii) the Covered Entity receives unsolicited instruction from a customer to route the customer's order to a particular market for execution and the Covered Entity complies with certain conditions.

Additionally, a Covered Entity would be subject to heightened obligations where engaging in conflicted transactions with regard to retail customer orders. Covered Entities would be required to conduct quarterly reviews of the quality of their executions and, on the basis of such reviews, revise their execution procedures as appropriate. A Covered Entity that executes trades would be required to identify potential liquidity sources for the securities that it trades and determine that it is reasonably obtaining the best available price.

Variable Minimum Pricing Increments for Quoting and Trading NMS Stocks

The SEC proposed amendments to Regulation NMS to adopt certain minimum pricing increments (i.e., "tick sizes") for the quoting and trading of NMS stocks. The proposed amendments would also "reduce access fee caps for protected quotations, and accelerate the transparency of the best priced orders available in the market." Specifically, the SEC proposed amending Regulation NMS Rule 612 ("Minimum Pricing Increment") to reduce the minimum pricing increments for NMS securities generally to fractions of a penny on the bases of the time weighted average quoted spread for the relevant NMS stock. Additionally, the SEC proposed to amend Regulation NMS Rule 610 ("Access to Quotations") to require:

• for quotations in NMS stocks priced at $1.00 or more, access fee caps of $0.0005 per share for NMS stocks that have a minimum pricing increment of 1/10th of a penny;
• for NMS stocks that have a minimum pricing increment greater than 1/10th of a penny, access fee caps at 1/10th of a penny per share; and
• for quotations in NMS stocks priced less than $1.00, access fee caps of .05% of the quotation price.

Among other things, the proposed amendments would also prohibit national securities exchanges from imposing or permitting fees or providing or permitting any rebate or other "remuneration for the execution of an order in an NMS stock unless such fee, rebate, or other remuneration can be determined at the time of execution." The proposed amendments would also accelerate the date by which market participants must comply with the odd-lot information and round lot definitions adopted under the Market Data Infrastructure Rules adopted in 2020.

Enhancing Order Competition

The SEC's proposed Regulation NMS Rule 615 (the "Order Competition Rule") would establish regulations to "promote a more competitive, transparent, and efficient market structure for NMS stocks." Among other things, the Order Competition Rule would apply to "segmented" orders (orders for NMS stocks "made for (i) a natural person's account (or an account legally held on behalf of a natural person or family) and (ii) where the average daily number of trades executed in NMS stocks was less than 40 in each of the preceding six calendar months").

The Order Competition Rule would also apply to "restricted competition trading centers" (i.e., trading venues that are not national securities exchanges and alternative trading systems meeting the proposed transparency, access, and volume requirements for an "open competition trading center"). The Order Competition Rule would prohibit restricted competition trading centers from executing segmented orders for NMS stocks internally, unless the order was first subject to competition in a qualified auction. Furthermore, the Order Competition Rule would establish requirements for qualified auctions, including:

• auction messages must be widely disseminated in consolidated market data;
• auction durations must be no less than 100 milliseconds and no more than 300 milliseconds;
• the minimum pricing increment must be "no less than $0.001 for segmented orders and auction responses with prices of $1.00 or more per share"; and
• prohibiting, among other things, the giving of priority to the fastest auction response "or to the auction response submitted by the broker-dealer that routed the segmented order to the auction."

Disclosure Requirements Regarding Order Execution Information

The SEC proposed amendments to Regulation NMS Rule 605 ("Disclosure of Order Execution Information") to update the disclosures required for order executions in NMS stocks. Among other things, the proposed amendments would:

• expand the scope of firms subject to the requirement to make publicly available execution quality reports;
• expand the definition of "covered order" to include certain orders "submitted outside of regular trading hours and certain orders submitted with stop prices";
• eliminate the time-to-execution categories and adopt average time to execution, median time to execution, and 99th percentile time to execution statistics, each measured in milliseconds; and
• amend the information required to be reported under Regulation NMS Rule 605 to change "the realized spread statistics to 15 second and one minute realized spread and requir[e] new statistical measures of execution quality that could be used to evaluate price improvement and size improvement for all order types, additional price improvement statistics for market and marketable order types, and certain statistical measures that could be used to measure execution quality of non-marketable limit orders."

The Commissioners were unanimous in supporting allowing the proposal to reduce minimum price increments to go forward. Commissioners Peirce and Uyeda voted against the other proposals, arguing that they were extremely complicated such that their results were impossible to anticipate, and that they did not address any material problems.