Path forward for equity market structure

The Security Industry and Financial Markets Association’s (SIFMA) mission is to support a strong financial industry that facilitates investor opportunity, capital formation, job creation and economic growth, while building trust and confidence in the financial markets. Robust equity markets are vital to accomplishing these goals. Recent concerns of disparate treatment in the equity markets have threatened investor confidence in the stock market and must be addressed.

It’s true that the U.S. has the deepest and most liquid stock market in the world. Over the past ten years, innovation, regulation and the resulting competition in the marketplace have caused spreads to tighten, transaction costs to decrease and execution speeds to increase. It is now much easier and more affordable for all investors to participate in the equity markets.

{mosads}However, these same factors that have benefited investors have also led to a market structure that is increasingly complex and fragmented. This complexity and fragmentation open the door to disparate treatment that could undermine investor confidence and discourage investors from participating in the stock market.  Indeed, the evolution of our equity markets has shown that there are aspects that should be improved or corrected, so that markets operate in a manner that supports fairness and stability.

SIFMA has long called for a comprehensive review of equity market structure to ensure it is working in the best interest of all investors. SIFMA represents nearly 400 broker-dealers, banks and asset managers, and we have called on this diverse membership to develop a series of tangible and actionable market structure reforms that we feel will enhance fairness, stability and transparency in the equity markets.

Specifically, we established a broad-based task force comprised of members from across the industry (retail and institutional dealers and asset managers) and across the country (San Francisco to New York to Little Rock) to develop proposals that we feel address three areas of markets structure that can be improved, including complexity and fragmentation caused by the current order system, fair and timely access to market data, and enhanced transparency for retail and institutional investors. 

Addressing market complexity and fragmentation:

Access fees charged by exchanges and other venues should be dramatically reduced, if not eliminated.  While brokers are legally required to route their orders to the exchange that is quoting the best price – so called “protected quotes” – the exchanges are permitted to charge relatively high fees for accessing these quotes: currently 30 cents per 100 shares. These fees have distorted market pricing as they are a significant percentage of overall trading costs and are several times higher than the fees charged by off-exchange venues.  As a result, brokers often avoid routing their orders to exchanges.  Exchanges also rebate most of their access fee revenue through price structures such as “maker/taker.” These developments have led to a proliferation of order types designed to avoid access fees and capture rebates, and that proliferation, in turn, adds complexity to the system, requires ongoing technology changes and create potential for market instability. The SEC should reduce the current cap on access fees to no more than five cents per 100 shares, and indeed should consider eliminating access fees altogether.

Regulators should also take steps to reduce the number of trading venues to which a broker dealer must connect and eliminate those who do not add true liquidity to the market.  Further, the SEC should review whether certain order types contribute or create activity that should otherwise be discouraged; whether to reduce unnecessary and excessive order traffic; and spur the development of a standardized kill switch mechanism.  Together, these changes will reduce the risk of market instability that is inherent in a highly fragmented, complex market system.

Promoting fairness in market data dissemination:

All users of market data should have access at the same time. Currently, the exchanges own and operate a centralized, public feed of the best market prices through the Securities Information Processors – or SIPs. However, the exchanges sell private, direct data feeds that are not processed through the SIP and therefore are available to subscribers before the SIP feed.

Moving forward, it’s important that the market data feeds provided by the SIPs and the direct feeds provided by the exchanges are distributed to all users at the same time. In the short term, the SEC should direct the exchanges to improve the SIPs so that they provide the fastest commercially available services for data aggregation and distribution.  In addition, the governance of the SIPs should include direct industry and public participation, and the SIPs should provide public disclosure of their operations and performance.  Over time, the central SIP structure should be replaced with multiple processors that would distribute public market data and compete on performance and cost to better serve the marketplace.

Encouraging robust transparency and disclosure for retail and institutional investors:

Today’s markets are extremely transparent by rule and practice, but we can do more to help investors understand how their orders are routed and executed.  Market participants should provide investors with better disclosure of relevant information in a standard, easily understood format.

For retail investors, brokers should provide public reports of specific order routing statistics and metrics. This information will help retail investors better understand how markets work and enable them to compare performance among brokers, ultimately increasing their confidence in the markets. SIFMA also recommends that brokers provide institutional customers with standardized venue execution analysis reports.  At the same time, the SEC should direct the exchanges to provide standardized public disclosure of their trading volumes through undisplayed and partially undisplayed orders.  Increased transparency will increase investor confidence, which is essential to an effective financial system that can stimulate economic growth and job creation.

The U.S equity markets are essential to the growth of our economy and the prosperity of Americans across the country. We must never stop looking for ways to innovate and improve how these markets function. SIFMA’s recommendations will help shape the best path forward for the financial system and the customers our industry serves.  

Bradbury is chief operating officer of Stephens Inc. and chair of the SIFMA Board’s Market Structure Task Force.  Bentsen is president and chief executive of SIFMA.