The U.S. Equities Market Structure Debate Continues

By Travis Schwab, CEO, Eventus Systems

In early July, I was fortunate to host a webinar on “Reg NMS II” for Eventus Systems featuring guest speaker Adam Inzirillo, Head of U.S. Equities at Cboe Global Markets. We had a lively discussion about equity market structure and the potential implications of this proposed regulatory update. We always look at regulations that potentially affect our clients’ trading activities and market risk requirements, and the conversation explored what firms should keep in mind as the proposal evolves.

Today’s Equity Markets: What’s Working and What’s Not 

While the industry grappled with COVID-19, the markets remained resilient in the face of increased trading volume and volatility.  Several regulatory safeguards demonstrated how markets and regulations have evolved:

• Rules 201 and 204, focused on short selling and close-out requirements, respectively
• Limit Up-Limit Down (LULD), implemented to limit volatility in National Market System (NMS) securities
• Reg SCI, aimed at strengthening the technology infrastructure of the markets

Despite these safeguards, four circuit breakers triggered during March and April temporarily halted exchange trading. These events prompted the industry to question whether circuit breakers had to be revisited, especially when they trigger at the open.

Regulation National Market System (Reg NMS) and Transparency 

Implemented by the SEC in 2007, Reg NMS encompassed initiatives designed to modernize the national market system for equity securities. At the time, market participants debated at length whether some components of Reg NMS were overly prescriptive and detrimental to competition and innovation.

As our discussion focused on transparency, we noted that the later enactment of both Reg ATS-N and the Rule 606 amendments – which increased the transparency of both alternative trading systems and handling of orders by broker-dealers, respectively – were examples of useful regulatory change.

Market Data Infrastructure Proposal Issues (aka “Reg NMS II”)

The SEC released proposed Reg NMS II in January seeking to create even more transparency. While Reg NMS II seeks to address the disparity in content and latency of market data provided by securities information processors (the “SIP”) and proprietary data products, this proposal has already earned vigorous commentary.

Adam and I focused on several elements of the proposal including:

• Replacing the current “exclusive SIP” model with a decentralized model of “competing consolidators”
• Elimination of a “unified” National Best Bid Offer (“NBBO”) necessary to accommodate multiple consolidators
• Expanding the “Core Data” provided to the SIP, i.e., depth of book data

Adam identified a number of concerns and issues with the proposal that are likely to be raised by market participants including:

• Undue burden on brokers with expansion of core data to five levels (i.e. routing protocols and data interpretation will be complex and expensive)
• Inefficiency and complexity in distributing and ingesting a much-expanded set of data
• Unnecessary regulatory burden created by a two-tiered market and an effective NBBO
• Onerous procedures to stay compliant with Rule 611 and inter-market sweep orders (ISOs).

Suggestions and Predictions

Adam suggested the following ideas that would prove beneficial to all participants, with less complexity:

1. A distributed SIP model with equal access to all participants
2. Distribute relevant content without adding complexity
3. Eliminate the two-tiered markets proposal
4. Focus on innovation that benefits all market participants
5. Encourage targeted market structure enhancements for which there is general consensus – and do not harm what is already working well

While the SEC is right to address issues like transparency, market data and the modernization of markets, it remains to be seen how the Reg NMS II proposal will pan out. Based on early comments and discussion in the industry, we believe there’s a good chance Reg NMS II will be amended before final approval.

For a replay of the webinar, click HERE.