Transaction Fee Pilot for NMS Stocks

Federal RegisterMar 26, 2018

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SECURITIES AND EXCHANGE COMMISSION

17 CFR Parts 200 and 242

[Release No. 34-82873; File No. S7-05-18]

RIN 3235-AM04

Transaction Fee Pilot for NMS Stocks

AGENCY:

Securities and Exchange Commission.

ACTION:

Proposed rule.

SUMMARY:

The Securities and Exchange Commission (“Commission” or “SEC”) is proposing to conduct a Transaction Fee Pilot for National Market System (“NMS”) stocks to study the effects that transaction-based fees and rebates may have on, and the effects that changes to those fees and rebates may have on, order routing behavior, execution quality, and market quality more generally. The data generated by the proposed pilot should help inform the Commission, as well as market participants and the public, about any such effects and thereby facilitate a data-driven evaluation of the need for regulatory action in this area.

DATES:

Comments should be received on or before May 25, 2018.

ADDRESSES:

Comments may be submitted by any of the following methods:

Electronic Comments

• Use the Commission's internet comment form (

http://www.sec.gov/rules/proposed.shtml

); or

• Send an email to

rule-comments@sec.gov

. Please include File Number S7-05-18 on the subject line.

Paper Comments

• Send paper comments to Brent J. Fields, Secretary, Securities and Exchange Commission, 100 F Street NE, Washington, DC 20549-1090.

All submissions should refer to File Number S7-05-18. This file number should be included on the subject line if email is used. To help the Commission process and review your comments more efficiently, please use only one method. The Commission will post all comments on the Commission's website (

http://www.sec.gov/rules/proposed.shtml

). Comments are also available for website viewing and printing in the Commission's Public Reference Room, 100 F Street NE, Washington, DC 20549-1090 on official business days between the hours of 10:00 a.m. and 3:00 p.m. All comments received will be posted without change. Persons submitting comments are cautioned that we do not redact or edit personal identifying information from comment submissions. You should submit only information that you wish to make available publicly.

Studies, memoranda, or other substantive items may be added by the Commission or staff to the comment file during this rulemaking. A notification of the inclusion in the comment file of any materials will be made available on the Commission's website. To ensure direct electronic receipt of such notifications, sign up through the “Stay Connected” option at

www.sec.gov

to receive notifications by email.

FOR FURTHER INFORMATION CONTACT:

Richard Holley III, Assistant Director; Johnna Dumler, Special Counsel; Erika Berg, Special Counsel; or Benjamin Bernstein, Attorney-Advisor, each with the Division of Trading and Markets, Securities and Exchange Commission, 100 F Street NE, Washington, DC 20549, or at (202) 551-5777.

SUPPLEMENTARY INFORMATION:

The Commission is proposing to adopt Rule 610T to establish a Transaction Fee Pilot.

Table of Contents

I. Overview

II. Transaction Fees

A. Background

B. Calls for a Pilot

C. Comments on the EMSAC Recommendation

III. Discussion of the Proposed Pilot

A. Applicable Trading Centers

B. Securities

C. Proposed Pilot Design

1. Test Group 1

2. Test Group 2

3. Test Group 3

4. Control Group

D. Duration

E. Data

1. Pilot Securities Exchange Lists and Pilot Securities Change Lists

2. Exchange Transaction Fee Summary

3. Order Routing Data

F. Implementation Period

IV. Paperwork Reduction Act

A. Summary of Collection of Information

1. Pilot Securities Exchange Lists and Pilot Securities Change Lists

2. Exchange Transaction Fee Summary

3. Order Routing Data

B. Proposed Use of Information

C. Respondents

D. Total Initial and Annual Reporting and Recordkeeping Burdens

1. Pilot Securities Exchange Lists and Pilot Securities Change Lists

2. Exchange Transaction Fee Summary

3. Order Routing Data

E. Collection of Information is Mandatory

F. Confidentiality of Responses to Collection of Information

G. Retention Period for Recordkeeping Requirements

H. Request for Comments

V. Economic Analysis

A. Background on Transaction-Based Fees and Potential Conflicts of Interest

1. Overview of Transaction-Based Fees

2. Potential Conflicts of Interest

B. Baseline

1. Current Information Baseline

2. Current Market Environment

C. Analysis of Benefits and Costs of Proposed Transaction Fee Pilot

1. Benefits of Proposed Transaction Fee Pilot

2. Costs of Proposed Transaction Fee Pilot

D. Impact on Efficiency, Competition, and Capital Formation

1. Efficiency

2. Competition

3. Capital Formation

E. Alternatives

1. Expand Proposed Transaction Fee Pilot To Include ATSs

2. Trade-At Test Group

3. No Overlap With Tick Size Pilot

4. Adjustments to the Proposed Transaction Fee Pilot Structure

F. Request for Comment

VI. Consideration of Impact on the Economy

VII. Regulatory Flexibility Analysis

VIII. Statutory Authority and Text of the Proposed Rule

I. Overview

As an integral part of its oversight of the U.S. equities markets, where liquidity is dispersed across a large number of trading centers that are linked through technology and regulation into a national market system, the Commission assesses market developments, including changes in technology and business practices, as it seeks to ensure that the current regulatory framework continues to effectively and efficiently promote fair and orderly markets, investor protection, and capital formation. From a regulatory perspective, today's equity market structure has been shaped by, among other things, Regulation NMS, adopted in 2005, which established the regulatory framework within which the markets transitioned from a primarily manual to a primarily automated trading environment.

Among other things, Regulation NMS put in place order protection requirements to govern intermarket trading in an electronically linked world of dispersed markets, and supplemented those requirements with rules addressing fair and efficient access to quotations and limits on fees charged to access newly protected quotations.

Subsequent to the adoption of Regulation NMS, market practices, aided by technological innovation, including advancements in data

management and analysis, and competition, have continued to evolve.

See

Securities Exchange Act Release No. 51808 (June 9, 2005), 70 FR 37496, 37543-46 (June 29, 2005) (“NMS Adopting Release”).

See id.

Since the adoption of Regulation NMS, the Commission and its staff have undertaken a number of reviews of market structure and market events.

In addition, the Commission has focused on initiatives to preserve the operational integrity of markets and market participants

and pursued a number of initiatives to enhance regulatory oversight of the markets, improve the information available to market participants about execution activity and the operation of Alternative Trading Systems (“ATSs”), and explored options to improve how equity market structure works for small companies.

See, e.g.,

Securities Exchange Act Release No. 61358 (January 14, 2010), 75 FR 3594, 3600 and 3603 (January 21, 2010) (“Concept Release”) (evaluating broadly the performance of market structure since Regulation NMS, particularly for long-term investors and for businesses seeking to raise capital, and soliciting comment on whether regulatory initiatives to improve market structure are needed).

See also

Findings Regarding the Market Events of May 6, 2010 (September 30, 2012),

available at

https://www.sec.gov/news/studies/2010/marketevents-report.pdf

(a report of the staffs of the Commission and the Commodity Futures Trading Commission to the Joint Advisory Committee on Emerging Regulatory Issues on the events of May 6, 2010 (the “Flash Crash”), which analyzed the extraordinary volatility experienced on that day and market participant behavior in response thereto). In response to lessons learned during the Flash Crash, the Commission and the self-regulatory organizations (“SROs”) focused on a number of critical market structure initiatives, including single stock circuit breakers for select NMS stocks and the Limit Up-Limit Down Plan successor thereto, which now serves as the primary volatility moderator in the U.S. equity markets.

See, e.g.,

Securities Exchange Act Release Nos. 62252 (June 10, 2010), 75 FR 34186 (June 16, 2010) (File Nos. SR-BATS-2010-014; SR-EDGA-2010-01; SR-EDGX-2010-01; SR-BX-2010-037; SR-ISE-2010-48; SR-NYSE-2010-39; SR-NYSEAmex-2010-46; SR-NYSEArca-2010-41; SR-NASDAQ-2010-061; SR-CHX-2010-10; SR-NSX-2010-05; SR-CBOE-2010-047) (order approving rule changes to provide for trading pauses in individual stocks when the price moves ten percent or more in the preceding five minute period); 62251 (June 10, 2010), 75 FR 34183 (June 16, 2010) (File No. SR-FINRA-2010-025) (order approving a rule to permit a halt trading otherwise than on an exchange where a primary listing market has issued a trading pause due to extraordinary market conditions); and 67091 (May 31, 2012), 77 FR 33498 (June 6, 2012) (File No. 4-631) (order approving, on a pilot basis, the national market system plan to address extraordinary market volatility).

See

Securities Exchange Act Release Nos. 63241 (November 3, 2010), 75 FR 69792 (November 15, 2010) (File No. S7-03-10) (Market Access Rule) and 73639 (November 19, 2014), 79 FR 72252 (December 5, 2014) (File No. S7-01-13) (Regulation Systems Compliance and Integrity).

See

Securities Exchange Act Release Nos. 79318 (November 15, 2016), 81 FR 84696 (November 23, 2016) (File No. 4-698) (order approving the National Market System Plan Governing the Consolidated Audit Trail); 78309 (July 13, 2016), 81 FR 49431 (July 27, 2016) (File No. S7-14-16) (proposed amendments to Rule 606 of Regulation NMS that would require broker-dealers to disclose additional data to their customers on their routing and execution of institutional orders); 76474 (November 18, 2015), 80 FR 80997 (December 28, 2015) (File No. S7-23-15) (proposed rule concerning operational transparency and regulatory oversight of ATSs); and 74892 (May 6, 2015), 80 FR 27514, 27517-18 (May 13, 2015) (File No. 4-657) (order approving the NMS Plan to Implement a Tick Size Pilot Program) (“Tick Size Pilot Approval Order”).

In addition, the Equity Market Structure Advisory Committee (“EMSAC”) provided the Commission with diverse perspectives on the structure and operations of the U.S. equities markets, as well as advice and recommendations on matters related to equity market structure.

In particular, the EMSAC's recommendations helped to shape the proposal contained herein—namely, a pilot program to produce data on the effect of equity exchange transaction fees and rebates, and changes to those fees and rebates, on order routing behavior, execution quality, and market quality. Informed by EMSAC's recommendation, the Commission believes that an appropriately constructed pilot should provide a valuable source of data to facilitate an informed data-driven discussion about potential alternative approaches to prevailing fee structures.

The EMSAC was a Federal Advisory Committee established as a broad-based group of experts charged with providing the Commission recommendations on a range of complex market structure issues.

See

Securities Exchange Act Release No. 74092 (January 20, 2015), 80 FR 3673 (January 23, 2015) (File No. 265-29).

See also

Equity Market Structure Advisory Committee—Subcommittees,

available at

https://www.sec.gov/spotlight/equity-market-structure/equity-market-structure-advisory-committee-subcommittees.htm

The EMSAC and its four subcommittees discussed a variety of equity market structure issues, including Regulation NMS, trading venue regulation, market quality, and customer issues. One of the EMSAC's subcommittees focused exclusively on Regulation NMS, especially Rule 610(c) (access fees) and Rule 611 (order protection), and considered whether parts of Regulation NMS should be updated in light of the evolution of technology, markets, and market participants. As part of its ongoing review of market structure, the Commission is considering the EMSAC's recommendations as it assesses potential changes to Regulation NMS.

The discussion below references various types of “trading centers,” which is a collective term that refers broadly to the venues that trade NMS stocks.

For purposes of this release, the term “trading center” includes national securities exchanges that are registered with the Commission and that trade NMS stocks (referred to herein as “equities exchanges” or “exchanges”), as well as other types of “non-exchange venues” that trade NMS stocks, including ATSs and broker-dealers that internalize orders by matching them off-exchange with reference to the national best bid and offer.

As discussed below, the proposed Pilot would apply only to equities exchanges.

See

17 CFR 242.600(b)(78) (defining “trading center” as “a national securities exchange or national securities association that operates an SRO trading facility, an alternative trading system, an exchange market maker, an OTC market maker, or any other broker or dealer that executes orders internally by trading as principal or crossing orders as agent.”).

See

17 CFR 242.600(b)(42) (defining “national best bid and national best offer”).

II. Transaction Fees

A. Background

Exchanges and other trading centers aggregate orders to buy and sell securities from market participants and have historically charged their members and users fees when they match an order to buy against an order to sell, at which point an execution occurs. As competition among trading centers intensified in the late 1990s, ATSs, and then exchanges, began to offer rebates to attract order flow.

The predominant model that has emerged in the U.S. equities markets is the “maker-taker” fee model, in which, on the one hand, a trading center pays its broker-dealer participants a per share rebate to provide (

i.e.,

“make”) liquidity in securities and, on the other hand, the trading center assesses them a fee to remove (

i.e.,

“take”) liquidity.

The trading center earns as revenue the difference between the fee paid by the “taker” of liquidity and the rebate paid to the provider or “maker” of liquidity. In a variation on this theme, some other trading centers have adopted a “taker-maker” pricing model (also called an inverted model), in which they charge

the provider of liquidity and pay a rebate to the taker of liquidity.

See, e.g.,

Memorandum on Maker-Taker Fees on Equities Exchanges from the Commission's Division of Trading and Markets to the Market Structure Advisory Committee (October 20, 2015),

available at

https://www.sec.gov/spotlight/emsac/memo-maker-taker-fees-on-equities-exchanges.pdf

(outlining the development of the maker-taker fee model in the U.S. and summarizing the current public debate about its impact on equity market structure) (“Staff Maker-Taker Memo”). The memo traces the development of transaction fees and summarizes the potential benefits and limitations of maker-taker pricing by presenting market participants' divergent views.

See id.

New fees that an exchange seeks to impose on its members or persons using its facilities are effective on the day that the exchange files them with the Commission, and neither advance notice nor Commission action is required before an exchange may implement a fee change.

See

15 U.S.C. 78s(b)(3)(A)(ii). Though Form 19b-4 fee filings are not subject to Commission approval, the Commission may, within 60 days after an exchange filed its fee change with the Commission, summarily suspend the new fee and institute proceedings to determine whether to disapprove it.

See

15 U.S.C. 78s(b)(3)(C). Exchange fees are subject to the statutory standards set forth in Section 6 of the Securities Exchange Act of 1934 (“Exchange Act”), which require, among other things, that an exchange's fees be an “equitable allocation” of “reasonable” fees and that they not be “designed to permit unfair discrimination.”

See

15 U.S.C. 78f(b)(4)-(5).

See, e.g.,

Cboe BYX U.S. Equities Exchange Fee Schedule (as of March 2018),

available at

https://markets.cboe.com/us/equities/membership/fee_schedule/byx/

The Commission periodically has addressed the “access fees” charged by trading centers to access their quotes.

In 2005, the Commission again spoke to this issue by adopting Rule 610(c) under Regulation NMS, which prohibits trading centers from imposing, or permitting to be imposed, any fees for the execution of an order against a “protected quotation”

that exceed or accumulate to more than $0.0030 per share.

The $0.0030 per share cap largely codified the prevailing fee level set through competition among the various trading centers.

The cap on access fees established by Rule 610(c) sought in part to prevent high access fees in excess of the cap from undermining Regulation NMS's price protection and linkage requirements, while preserving the business model used by trading centers dependent upon revenue from fees.

For example, in the mid-1990s, the Commission allowed an electronic communication network (“ECN”) to facilitate specialist and market maker quotation obligations by communicating to the public quotation system the best price and size of orders entered into the ECN by specialists or market makers as long as the ECN met certain conditions and noted that ECNs may impose fees for access to its system that are “similar to the communications and systems charges imposed by various markets, if not structured to discourage access by non-subscriber broker-dealers.” Securities Exchange Act Release No. 37619A (September 6, 1996), 61 FR 48290, 48314 n.272 (September 12, 1996) (File No. S7-30-95).

See also

Securities Exchange Act Release No. 40760 (December 8, 1998), 63 FR 70844, 70871 (December 22, 1998) (File No. S7-12-98). Commission staff subsequently issued a series of no-action letters with respect to access fees charged by ECNs to non-subscribers. These letters permitted fees in amounts equal to those that they charge a “substantial proportion” of their active broker-dealer subscribers, but no more than $0.009 per share.

See

Securities Exchange Act Release No. 49325 (February 26, 2004), 69 FR 11126, 11156 (March 9, 2004) (File No. S7-10-04) (“NMS Proposing Release”) (discussing the no-action relief and the inability of ECNs to charge fees that have the effect of creating barriers to access for non-subscribers).

Rule 600(b)(58) of Regulation NMS defines a “protected quotation” as a “protected bid or a protected offer.” 17 CFR 242.600(b)(58). Rule 600(b)(57) of Regulation NMS, in turn, defines a “protected bid or protected offer” as a quotation in an NMS stock that is: (i) Displayed by an “automated trading center,” (ii) disseminated pursuant to an effective national market system plan, and (iii) an “automated quotation” that is the best bid or best offer of a national securities exchange or national securities association. 17 CFR 242.600(b)(57).

See also

17 CFR 242.600(b)(3) (defining “automated quotation”).

See

17 CFR 242.610(c).

See also

NMS Adopting Release,

supra

note 1, at 37543-46. In the Regulation NMS Proposing Release, the Commission initially proposed to cap the access fees that any individual market participant could charge for equities at $0.0010 per share, with a total accumulated access fee limit of $0.0020 per share in any transaction.

See

NMS Proposing Release,

supra

note 12, at 11157-59. In its proposal, the Commission expressed concern that access fees added significant non-transparent costs to transactions, potentially encouraged locked markets, and created an unequal playing field as non-ECN broker-dealers were not permitted to charge access fees in addition to their posted quotations.

See id.

However, the Commission ultimately adopted an access fee cap of $0.0030, in order to simplify the initial proposal (

see

NMS Adopting Release,

supra

note 1, at 37502) and for the reasons outlined

infra

at notes 15-16 and accompanying text.

See

17 CFR 242.610(c).

See also

NMS Adopting Release,

supra

note 1, at 37545.

See

NMS Adopting Release,

supra

note 1, at 37545 (stating that “the $0.003 fee limitation is consistent with current business practices, as very few trading centers currently charge fees that exceed this amount”).

See id.

at 37596 (“In the absence of a fee limitation, the adoption of the Order Protection Rule and private linkages could significantly boost the viability of the outlier business model. Outlier markets might well try to take advantage of intermarket price protection by acting essentially as a toll booth between price levels. The high fee market likely will be the last market to which orders would be routed, but prices could not move to the next level until someone routed an order to take out the displayed price at the outlier market. Therefore, the outlier market might see little downside to charging exceptionally high fees, such as $0.009, even if it is last in priority.”).

See also

17 CFR 242.610(c). Maker-taker fees also are subject to the proposed rule change process for fees under the Exchange Act.

See

15 U.S.C. 78s(b)(3)(A) and 17 CFR 240.19b-4(f)(2).

For maker-taker exchanges, the amount of the taker fee is bounded by the cap imposed by Rule 610(c) on the fees the exchange can charge to access its best bid/offer for NMS stocks.

This cap applies to the fees assessed on an incoming order that executes against a resting order or quote, but does not directly limit rebates paid. The Rule 610(c) cap on fees also typically indirectly limits the amount of the rebates that an exchange offers to less than $0.0030 per share in order to maintain net positive transaction revenues.

For taker-maker exchanges, the amount of the maker fee charged to the provider of liquidity is not bounded by the Rule 610(c) cap, but such fees typically are no more than $0.0030, and the taker of liquidity earns a rebate.

See

17 CFR 242.610(c).

See, e.g.,

Staff Maker-Taker Memo,

supra

note 9, at 3. For example, a maker-taker equities exchange may charge a member $0.0030 to remove liquidity and pay a rebate of $0.0025 to the member that adds liquidity.

See, e.g.,

Cboe BZX U.S. Equities Exchange Fee Schedule (as of March 2018),

available at

https://markets.cboe.com/us/equities/membership/fee_schedule/bzx/

. The revenue earned by a maker-taker exchange on transactions equals the difference between the fee charged and the rebate paid.

See, e.g.,

Cboe BYX U.S. Equities Exchange Fee Schedule (as of March 2018),

available at

https://markets.cboe.com/us/equities/membership/fee_schedule/byx/

(where, for securities above $1.00, the fee for adding liquidity is $0.0019 and the rebate for removing liquidity is $0.0005). The make fee on a taker-maker exchange is not bounded by Rule 610(c) because such fee is not a charge to access the market's best bid/offer for NMS stocks.

As discussed below, the maker-taker and taker-maker fee models adopted by exchanges have attracted considerable attention.

In recent years, a variety of concerns have been expressed about the maker-taker fee model, in particular the rebates they pay to attract orders. For example, some have questioned whether the prevailing fee structure has created a conflict of interest for broker-dealers, who must pursue the best execution of their customers' orders while facing potentially conflicting economic incentives to avoid fees or earn rebates—both of which typically are not passed through the broker-dealer to its customers—from the trading centers to which they direct those orders for execution.

One academic study of selected market data suggested that some broker-dealers route non-marketable orders to the trading center offering the highest rebate, and do so in a manner that the authors contended might not be consistent with the broker-dealers' duty of best execution.

Others have expressed concern that maker-taker access fees may (a) undermine market transparency since displayed prices do not account for exchange transaction fees or rebates and therefore do not reflect the net economic costs of a trade; (b) serve as a way to effectively quote in sub-penny increments on a net basis when the effect of a maker-taker exchange's sub-penny rebate is taken into account even though the minimum quoting increment is expressed in full pennies; (c) introduce unnecessary market complexity through the proliferation of new exchange order types (and new exchanges) designed solely to take advantage of pricing models; and (d) drive orders to non-exchange trading centers as market participants seek to avoid the higher

fees that exchanges charge to subsidize the rebates they offer.

See infra

notes 21-28 and accompanying text.

See also

U.S. Dep't of the Treasury, A Financial System that Creates Economic Opportunity: Capital Markets 62-63 (2017).

See, e.g.,

Stanislav Dolgopolov, “The Maker-Taker Pricing Model and its Impact on the Securities Market Structure: A Can of Worms for Securities Fraud?,” 8 Va. L. & Bus. Rev. 231, 270 (2014),

available at

http://papers.ssrn.com/sol3/papers.cfm?abstract_id=2399821

Robert H. Battalio, Shane A. Corwin, and Robert H. Jennings, “Can Brokers Have It All? On the Relation Between Make-Take Fees and Limit Order Execution Quality,”

Journal of Finance

71, 2193-2237 (2016),

available at

http://onlinelibrary.wiley.com/doi/10.1111/jofi.12422/full

(“Battalio

Equity Market

Study”).

A non-marketable order is an order with a limit price that prevents its immediate execution at current market prices.

See also

infra

note 229 (discussing non-marketable orders).

See, e.g.,

Curt Bradbury, Market Structure Task Force Chair, Board of Directors, SIFMA, and Kenneth E. Bentsen Jr., President and Chief Executive Officer, SIFMA, Opinion, “How to Improve Market Structure,” N.Y. Times (July 14, 2014),

available at

http://dealbook.nytimes.com/2014/07/14/how-to-improve-market-structure/?_r=0

; Larry Harris, “Maker-Taker Pricing Effects on Market Quotations,” at 24-25 (November 14, 2013),

available at

http://bschool.huji.ac.il/.upload/hujibusiness/Maker-taker.pdf

(“Harris”); Dolgopolov,

supra

note 21; Letter from Richard Steiner, Global Equities Liaison to Regulatory & Government Affairs, RBC Capital Markets, to Elizabeth Murphy, Secretary, Commission, at 4 (November 22, 2013) (“RBC Capital Markets Letter I”),

available at

https://www.sec.gov/;comments/s7-02-10/s70210-411.pdf

By contrast, others have indicated that the maker-taker model may have positive effects by enabling exchanges to compete with non-exchange trading centers and narrowing quoted spreads by subsidizing posted prices.

In particular, maker-taker fees may narrow displayed spreads in some securities insofar as the liquidity rebate effectively subsidizes the prices of displayed liquidity.

In turn, that displayed liquidity may establish the national best bid and offer, which is often used as the benchmark for marketable order flow, including retail order flow, that is executed off-exchange by either matching or improving upon those prices.

Accordingly, retail orders may benefit indirectly from the subsidy provided by maker-taker exchanges.

See, e.g.,

Michael Brolley & Katya Malinova, “Informed Trading and Maker-Taker Fees in a Low Latency Limit Order Market,” at 2 (October 24, 2013),

available at

http://papers.ssrn.com/sol3/papers.cfm?abstract_id=2178102

(“If a maker rebate is introduced in competitive markets, the bid-ask spread will decline by (twice) the maker rebate.”) (“Brolley and Malinova”); Shawn O'Donoghue, “The Effect of Maker-Taker Fees on Investor Order Choice and Execution Quality in U.S. Stock Markets” (January 23, 2015),

available at

http://papers.ssrn.com/sol3/papers.cfm?abstract_id=2607302

(“O'Donoghue”); and Jean-Edouard Colliard & Thierry Foucault, “Trading Fees and Efficiency in Limit Order Markets,” Oxford University Press, at n.13 (September 1, 2012),

available at

http://thierryfoucault.com/publications/research-papers/

(arguing that maker-taker rebates may help equities exchanges compete with off-exchange payment for order flow arrangements, in which wholesale broker-dealers purchase retail order flow for trading off-exchange).

See, e.g.,

Letter from Richie Prager, Managing Director, Head of Trading and Liquidity Strategies, BlackRock, Inc., to Mary Jo White, Chair, SEC, at 2 (September 12, 2014), available at:

http://www.sec.gov/comments/s7-02-10/s70210-419.pdf

(“Some participants have called for elimination of rebates and maker-taker pricing in its entirety in conjunction with access fees, but BlackRock believes that incentives for providing liquidity positively impact market structure. Incentives promote price discovery in public markets, increase available liquidity and tighten spreads. Rebates compensate liquidity providers for exposing orders to adverse selection and information leakage.”).

See also

Harris,

supra

note 23, at 1-2 (noting that while economic theory suggests that maker-taker pricing should have narrowed average bid-ask spreads, intervening factors, such as the growth in electronic trading, make it difficult to “entirely attribute[ ]” the observed reduction in bid-ask spreads to maker-taker pricing; in addition, spreads cannot decrease for stocks that already trade at penny-wide spreads).

See

Concept Release,

supra

note 3, at 3600.

Some have urged the Commission to gather data to assess the potential impact of transaction fees and rebates in the U.S. markets.

Most recently, as discussed below, the EMSAC recommended that the Commission conduct a pilot to study the impact of transaction fees on market quality and order routing behavior.

Informed by that recommendation, the views of those submitting comment letters on the EMSAC's proposal, and the information and research described herein, the Commission is proposing that a pilot program be conducted that would produce data on the effects of equity exchange transaction fees and rebates, and possible effects of changes in those fees and rebates, on order routing behavior, execution quality, and market quality.

See infra

note 29 and accompanying text. Limited experiments on a single market with a limited subset of securities, like the test performed by The Nasdaq Stock Market LLC (“Nasdaq”) discussed below, where order flow can quickly move to other exchanges that are not taking part in the experiment, do not offer the same insights as a comprehensive market-wide study on transaction fees.

See infra

notes 30-34 and accompanying text.

See

Recommendation for an Access Fee Pilot (July 8, 2016),

available at

https://www.sec.gov/spotlight/emsac/recommendation-access-fee-pilot.pdf

(“EMSAC Pilot Recommendation”);

see also

supra

note 38 and accompanying text.

B. Calls for a Pilot

The concept of a pilot program to gather data to study the effects of the maker-taker model on market quality and order routing behavior has attracted increasing attention in recent years.

Nasdaq experimented with changes to its transaction fees when it lowered access fees and rebates in 14 stocks over a four-month period in 2015.

Through its experiment, Nasdaq observed that “[l]iquidity providers [were] the primary responders to the fee changes during the experiment,” whereas there were “no significant changes in the nature of liquidity taking during the pilot.”

While liquidity

providers

could readily route orders to other trading centers offering higher maker rebates, Nasdaq offered a number of possible explanations for why liquidity

takers

did not appear to respond to its experiment, including the fact that order routing decisions were primarily driven by best execution parameters not by exchange fees.

For these reasons, Nasdaq itself observed that “the results for Nasdaq would not necessarily be duplicated industry-wide if access fees and rebates were reduced across the board.”

In other words, Nasdaq's experiment involved a small sample of stocks on a single market for a short duration, all of which make it difficult to draw inferences about what would happen if all exchanges participated in the same experiment simultaneously. The Commission preliminarily believes, therefore, that a pilot is necessary to gather data to facilitate analysis of the

impact of fees and rebates on the equities exchanges broadly.

See, e.g.,

Letter from Micah Hauptman, Financial Services Counsel, Consumer Federation of America, to Brent J. Fields, Secretary, Commission, at 2 (December 22, 2014),

available at

https://www.sec.gov/comments/4-657/4657-64.pdf

(recommending an access fee pilot as an alternative to a tick size pilot); and RBC Capital Markets Letter I,

supra

note 23, at 3.

See

Securities Exchange Act Release No. 73967 (December 30, 2014), 80 FR 594 (January 6, 2015) (SR-NASDAQ-2014-128) (“Nasdaq Pilot”) (lowering the access fee to remove liquidity from $0.0030 to $0.0005 and reducing the credit paid to display liquidity to $0.0004 (such credits otherwise ranged from $0.0015 to $0.00305)).

See

Nasdaq Access Fee Experiment May 2015 Report, at 1,

available at

http://www.nasdaqomx.com/digitalAssets/98/98718_accessfeereporttwo.pdf

(“Nasdaq May Report”). Nasdaq noted that one of the aims of its experiment was to “examine the importance of liquidity provider rebates to participant firms' posting behavior on Nasdaq.”

Id.

Nasdaq's experiment showed what it characterized as statistically significant effects on the Nasdaq Stock Market. For example, Nasdaq observed the following initial impact on its market share: “In aggregate, Nasdaq's equally-weighted market share in the experiment stocks declined by 2.9 percentage points from January to February. This compares to a decline of 0.9 percentage points in Nasdaq market share in the control stocks. The change observed in the experiment stocks is statistically significant using the diff-in-diff measure.”

See

Nasdaq Access Fee Experiment March 2015 Report, at 1,

available at

http://images.qnasdaqomx.com/Web/NASDAQOMX/%7Be737af7a-07e8-4119-859c-096b306fc6f2%7D_Fee_Cap_Report_3-6-15v3.pdf

(“Nasdaq March Report”). It also observed the following impact on its displayed liquidity: “Nasdaq's time at the NBBO in the experiment stocks declined 4.9 percentage points from 93.0% in January to 88.1% February (Figure 2). This compares to a decline of 0.3 percentage points in the control stocks. The difference between the experiment and control stocks is statistically significant.”

See id.

at 2.

See, e.g.,

Nasdaq May Report,

supra

note 31, at 3. Other possible explanations offered by Nasdaq include, for example, the fact that the number of stocks in its experiment was too low to justify broker-dealers recoding their liquidity taking algorithms in response to the experiment, the possibility that liquidity taking activity for some firms may not consider access fees, or that some liquidity taking algorithms may be based on displayed size.

See id.

(“. . . a fifth conjecture is that the economic incentives for taking liquidity from sources other than Nasdaq are not materially affected by the reduction in Nasdaq's access fees”).

Nasdaq May Report,

supra

note 31, at 1.

See also

EMSAC Pilot Recommendation,

supra

note 28, at 3 (“Limited experiments, such as the recent Nasdaq pilot, have shown that individual market experiments do not yield conclusive results about the potential impact of market-wide policy reform on access fees.”).

See, e.g.,

Nasdaq May Report,

supra

note 31, at 1 (noting that “. . . the results for Nasdaq would not necessarily be duplicated industry-wide if access fees and rebates were reduced across the board.”).

See also

EMSAC Pilot Recommendation,

supra

note 28, at 3

(“Limited experiments, such as the recent Nasdaq pilot, have shown that individual market experiments do not yield conclusive results about the potential impact of market-wide policy reform on access fees.”);

Nasdaq March Report,

supra

note 31, at 3 (“Some commentators on the access fee experiment have indicated that a voluntary change in the access fee by one exchange in fourteen stocks does not tell you what would happen if there were a mandatory change in the regulatory maximum access fee across all exchanges in a considerable number of stocks of NMS stocks. We do not disagree with that point. Nasdaq believed in launching the experiment that fourteen stocks were enough to induce behavioral changes with statistically and economically measurable changes. The results from February have proven that belief was correct.”); and Letter from Theodore R. Lazo, Managing Director and Associate General Counsel, SIFMA, to Brent J. Fields, Secretary, Commission (January 30, 2015), at 2,

available at

http://www.sec.gov/comments/sr-nasdaq-2014-128/nasdaq2014128-1.pdf

(“In particular, the proposal's limited scope and application cannot act as a substitute for a market-wide access fee reduction that would change the dynamics of access fees and rebates across the entire market. For the proposal to accurately measure the structural impact of reduced access fees, the proposal should be carried out across all exchanges and with a larger sampling of symbols.”).

See also

Section V.B.1.b.i

infra

for additional discussion of the Nasdaq study.

More recently, the EMSAC's Regulation NMS Subcommittee (“Subcommittee”)

prepared an outline for a potential access fee pilot, and the EMSAC discussed that outline, and the topic of access fees in general, at its April 2016 meeting.

Following that meeting, the Subcommittee revised its recommendation and prepared a formal recommendation for consideration by the EMSAC.

The EMSAC considered that revised proposal and recommended that the Commission pursue an access fee pilot.

The EMSAC's recommendation stated:

The Subcommittee first convened in November 2015, and began by focusing on maker-taker access fees. In a series of meetings over the following months, the Subcommittee assembled an outline of proposed terms for an access fee pilot. It identified general goals and prepared a recommendation for the consideration of the full EMSAC for the scope of a potential pilot, including stock selection, pricing buckets, and duration, and it also considered the potential inclusion of non-exchange markets, taker-maker exchanges, and a trade-at component. Minutes of those meetings and other information are

available at

https://www.sec.gov/spotlight/equity-market-structure/equity-market-structure-advisory-committee-subcommittees.htm

See

Framework for a Potential Access Fee Pilot (April 19, 2016),

available at

https://www.sec.gov/spotlight/emsac/emsac-regulation-nms-subcommittee-recommendation-041916.pdf

. At its April 2016 meeting, EMSAC discussed the topic of maker-taker fees and heard from a number of outside experts.

See

EMSAC Transcript, April 26, 2016,

available at

https://www.sec.gov/spotlight/emsac/emsac-042616-transcript.txt

See

Regulation NMS Subcommittee Recommendation for an Access Fee Pilot (June 10, 2016),

available at

https://www.sec.gov/spotlight/emsac/emsac-regulation-nms-recommendation-61016.pdf

(“June Recommendation”).

The EMSAC considered the Subcommittee's June Recommendation and adopted it, by a vote of 15-1, with slight modifications that preserved the basic structure of the June Recommendation but incorporated additional detail, for example, settling on a two-year term and recommending 100 securities in each test bucket.

See

EMSAC Pilot Recommendation,

supra

note 28

. See also

EMSAC Transcript, July 8, 2016,

available at

https://www.sec.gov/spotlight/emsac/emsac-070816-transcript.txt

. The EMSAC member who voted against the EMSAC Pilot Recommendation noted his concern that “capping access fees is going to discourage liquidity provision and increase spreads” before voting against the EMSAC Pilot Recommendation.

See id.

at 22:24-23:6.

The intent of the proposed pilot is to better understand, within the context of our current market structure, the effect of access fees on liquidity provision, liquidity taking and order routing with the ultimate goal of improving market quality. The Committee does not believe that there are any certain or predetermined outcomes from the pilot, and the net effect of many counterbalancing factors are not believed to be significantly beneficial or detrimental to any single group. Ultimately, the findings from the pilot are purely intended to inform the broader debate on how to improve market quality for issuers, investors and market participants.

EMSAC Pilot Recommendation,

supra

note 28, at 1.

The EMSAC's pilot recommendation featured four buckets of common stocks and Exchange-Traded Funds (“ETFs”)

with a market capitalization of at least $3 billion: A control bucket and three test buckets with successively lower access fee caps of $0.0020, $0.0010, and $0.0002.

Consistent with the scope of Rule 610(c) of Regulation NMS, the EMSAC recommendation did not include an outright prohibition on rebates or include taker-maker exchanges in the pilot.

The EMSAC recommended a two-year term for a pilot and outlined a number of metrics that could be assessed in connection with the pilot.

See infra

note 96 (discussing ETFs).

See

EMSAC Pilot Recommendation,

supra

note 28, at 2. The EMSAC noted that it “intentionally selected $.0002 as the rate in Bucket 4 in order to create a bucket where any rebate should result in a de minimis economic incentive.”

Id.

at 4.

In addition, consistent with the framework of Rule 610(c), the EMSAC's proposed fee caps would apply to protected quotations and not depth of book quotations, and would have no direct application to ATSs.

See id.

at 2.

See id.

at 2. The recommendation did not include a “trade-at” provision that would restrict price matching of protected quotations, but mentioned an option to include ATSs in the pilot.

See id.

at 5 (noting that if trade-at were included, “the likely shift of flows as a result of trade-at would both make the pilot more complex and impact the effective measurement of the access fee change”). The EMSAC also noted that “[t]he tick pilot will yield some trade-at results that can be further studied; thus duplication is not warranted.”

See id.

See also

Tick Size Pilot Approval Order,

supra

note 5, at 27517-18 (discussing a trade-at prohibition that, subject to certain exceptions, prevents a trading center that was not quoting from price matching protected quotations and permits a trading center that was quoting at a protected quotation to execute orders at that level, but only up to the amount of its displayed size).

C. Comments on the EMSAC Recommendation

Following the establishment of the EMSAC, the Commission received a number of comment letters regarding the impact of access fees and rebates in the equities markets.

Several

commenters voiced support for a pilot in general or for the various proposals considered by the Subcommittee and the EMSAC that culminated in the EMSAC Pilot Recommendation. One commenter, for example, expressed support for an access fee pilot and characterized the Subcommittee's recommendation as “an excellent roadmap” for such a pilot.

Other commenters that support an access fee pilot remarked that the maker-taker pricing model contributes to opaque, non-transparent markets, increases market complexity and fragmentation, and generates conflicts of interest that may impede best execution of orders, and they urged the Commission to act promptly on a pilot that could produce useful data on these issues.

Letter from Haim Bodek, Managing Principal, and Stanislav Dolgopolov, Regulatory Consultant, Decimus Capital Markets, LLC, to Brent J. Fields, Secretary, Commission (April 25, 2016),

available at

https://www.sec.gov/comments/265-29/26529-63.pdf

(“Decimus Capital Markets Letter”); Letter from Elizabeth King, NYSE, to Brent J. Fields, Secretary, Commission (May 13, 2016),

available at

https://www.sec.gov/comments/265-29/26529-66.pdf

(“NYSE Letter”); Letter from Joan C. Conley, Senior Vice President and Corporate Secretary, Nasdaq, to Brent J. Fields, Secretary, Commission (May 24, 2016),

available at

https://www.sec.gov/comments/265-29/26529-71.pdf

(“Nasdaq Letter”); Letter from Richard Steiner, RBC Capital Markets, to The Honorable Mary Jo White, Chair, Commission (May 24, 2016),

available at

https://www.sec.gov/comments/265-29/26529-70.pdf

(“RBC Capital Markets Letter II”); Letter from Security Traders Association to SEC EMSAC (June 15, 2016),

available at

https://www.sec.gov/comments/265-29/26529-74.pdf

(“Security Traders Association Letter”); Letter from Kermit Kubitz to SEC EMSAC (July 5, 2016),

available at

https://www.sec.gov/comments/265-29/26529-73.htm

(“Kubitz Letter”); Letters from J A to Chair White, Commissioners, and SEC EMSAC (May 23, 2016, & September 13, 2016),

available at

https://www.sec.gov/comments/265-29/26529-68.htm

https://www.sec.gov/comments/265-29/26529-85.htm

(“J A Letters”); Letter from Richard Steiner, Electronic Trading Strategist, RBC Capital Markets, to Mary Jo White, Chair, Commission (September 23, 2016),

available at

https://www.sec.gov/comments/265-29/26529-86.pdf

(“RBC Capital Markets Letter III”); Letter from Tyler Gellasch, Executive Director, Healthy Markets Association, to Brent J. Fields, Secretary, Commission (December 23, 2016),

available at

https://www.sec.gov/comments/265-29/26529-1441899-130023.pdf

(“Healthy Markets Letter I”); Letter from Theodore R. Lazo, Managing Director & Associate General Counsel, SIFMA, to Brent J. Fields, Secretary, Commission (March 29, 2017),

available at

https://www.sec.gov/comments/265-29/26529-1674696-149276.pdf

(“SIFMA Letter”); Letter from Tyler Gellasch, Executive Director, Healthy Markets Association, to Brent J. Fields, Secretary, Commission (April 3, 2017),

available at

https://www.sec.gov/comments/265-29/26529-1681516-149500.pdf

(“Healthy Markets Letter II”); Letter from Tyler Gellasch, Executive Director, Healthy Markets Association, to Hon. W. Jay Clayton, Chairman, Commission (June 13, 2017),

available at

https://www.sec.gov/comments/265-29/26529-1801830-153704.pdf

(“Healthy Markets Letter III”); Letter from Chris Concannon, President and Chief Operating Officer, Cboe, Thomas Wittman, CEO, The Nasdaq Stock Market LLC, and Thomas W. Farley, President, NYSE, to Hon. Jay Clayton, Chairman, Commission (October 13, 2017),

available at

https://www.sec.gov/comments/265-29/26529-2641078-161300.pdf

(“Joint Exchange Letter”); Letter from Brad Katsuyama, Chief Executive Officer, and John Ramsay, Chief Market Policy Officer, Investors Exchange LLC, to Hon. Jay Clayton, Chairman, Commission (November 15,

2017),

available at

https://www.sec.gov/comments/265-29/26529-2691444-161491.pdf

(“IEX Letter”); Email from Tim Quast, President, ModernNetworks IR LLC, to Hon. Jay Clayton, Chairman, Commission (December 5, 2017),

available at

https://www.sec.gov/comments/265-29/26529-2777697-161622.pdf

See

Decimus Capital Markets Letter,

supra

note 44, at 2.

See, e.g.,

Letter from Ari Burstein, Associate General Counsel, Investment Company Institute, to Brent Fields, Secretary, Commission (May 11, 2015),

available at

https://www.sec.gov/comments/265-29/26529-10.pdf

(recommending that the Commission establish a pilot program that would prohibit rebates and reduce access fees) (“Investment Company Institute Letter I”); Letter from Managed Funds Association to SEC EMSAC (September 29, 2015),

available at

https://www.sec.gov/comments/265-29/26529-28.pdf

(urging “a disciplined, data-driven study” and calling for analysis of access fees' effects on market liquidity, order routing, execution transparency, transaction costs, and competition); Letter from David W. Blass, General Counsel, Investment Company Institute, to SEC EMSAC (January 20, 2016),

available at

https://www.sec.gov/comments/265-29/26529-48.pdf

(urging the Commission to establish a phased pilot program for highly liquid stocks that would reduce access fees and prohibit rebates) (“Investment Company Letter II”); Letter from the Trading Issues Committee, Canadian Security Traders Association, Inc., to Brent Fields, Secretary, Commission (April 6, 2016),

available at

https://www.sec.gov/comments/265-29/26529-61.pdf

(proposing a cross-border study on the effect of rebates on market quality in conjunction with the Canadian Securities Administrators); J A Letters,

supra

note 44 (retail investor supporting proposed pilot but suggesting test of payment for order flow and inclusion of “trade-at” provision); Security Traders Association Letter,

supra

note 44 (supporting a pilot of limited number of securities with varying access fee caps and “no other variables”); RBC Capital Markets Letter III,

supra

note 44 (concluding that an access fee pilot based on the EMSAC recommendation would be “a positive step” and further suggesting a no-rebate bucket and the inclusion of taker-maker exchanges and ATSs); Healthy Markets Letter I,

supra

note 44 (applauding many aspects of the EMSAC recommendation, but suggesting that it include all trading venues and a “trade-at” provision); SIFMA Letter,

supra

note 44 (proposing, as one alternative, that the Commission adopt the EMSAC recommendation); IEX Letter,

supra

note 44 (supporting the concept of a fee pilot conducted by the SEC, but recommending that the pilot include a no-rebate bucket and apply to inverted exchanges).

Some of these same commenters suggested modifications to the ideas ultimately embodied in the EMSAC Pilot Recommendation. For example, one commenter suggested including a wider range of securities with lower market capitalizations, instead of focusing only on the highly liquid securities proposed by the EMSAC.

Several other commenters argued that any pilot should either ban rebates altogether or include a “no-rebate” test bucket—an approach that the EMSAC considered, but did not ultimately recommend.

Finally, a number of commenters advocated for applying a pilot to taker-maker exchanges as well as ATSs.

See

Decimus Capital Markets Letter,

supra

note 44, at 11.

But cf.

Investment Company Institute Letter II,

supra

note 46, at 6-7 (asserting that pilot securities should be highly liquid stocks, as measured by average daily trading volume); Joint Exchange Letter,

supra

note 44, at 5 (expressing concern that liquidity in less active stocks could be negatively impacted by a pilot, but acknowledging that, “if less active stocks are omitted, it is difficult to envision the securities that should be selected . . .”).

See also

infra

Section III.B (discussing the securities to be included in the proposed pilot, which incorporates a broader range of securities than the EMSAC recommendation, including NMS stocks with market capitalizations below $3 billion).

See

Investment Company Institute Letter II,

supra

note 46, at 7 (recommending that the Commission establish a phased pilot program for highly liquid stocks that would reduce access fees and prohibit rebates); RBC Capital Markets Letter III,

supra

note 44, at 3 (advocating for the inclusion of a “no-rebate” bucket in the pilot); Healthy Markets Letter II,

supra

note 44, at 6 n.15 (suggesting that the Commission establish a pilot that eliminates rebates); SIFMA Letter,

supra

note 44, at 9-10 (suggesting, as an alternative to an access fee pilot, that the Commission eliminate rebates); IEX Letter,

supra

note 44, at 3-4 (stating that restrictions on access fees may not help the Commission to evaluate alternatives to the current exchange pricing system, which is driven primarily by rebates, and advocating for the inclusion of a “no-rebate” bucket in the pilot).

See also

Nasdaq Letter,

supra

note 44, at 3 (asserting that any pilot should apply to both fees and rebates).

But cf.

NYSE Letter,

supra

note 44, at 3-4 (arguing that elimination of rebates, without any other offsetting incentives, may reduce market-maker incentives to provide liquidity).

See also

infra

Section III.C (discussing the design of the proposed pilot, which includes a “no-rebate” bucket).

See

RBC Capital Markets Letter III,

supra

note 44, at 4 (suggesting that the pilot should be applied to taker-maker exchanges and ATSs); Healthy Markets Letter I,

supra

note 44, at 3-4 (taking the view that “all relevant exchanges” and ATSs should be included in the pilot).

See also

Nasdaq Letter,

supra

note 44, at 3 (recommending that the Commission establish a pilot that applies to all trading centers, including ATSs); Joint Exchange Letter,

supra

note 44, at 5 (recommending that the pilot apply to trading in all off-exchange venues); IEX Letter,

supra

note 44, at 4 (suggesting that the access fee pilot should include taker-maker exchanges).

See also

infra

Section III.A (discussing the Commission's decision to include taker-maker exchanges, but not ATSs, in the proposed pilot).

In a joint letter, three exchanges recommended several other changes

if the Commission proceeds with a pilot based on the EMSAC's recommendation.

These commenters suggested that such a pilot should, among other things: (1) Study “all forms of remuneration,” in part by adding measures specifically to study ATS and broker-dealer remuneration and to show how the savings realized by broker-dealers from lowered exchange transaction fees are “returned to customers,”

(2) measure costs to issuers and shareholders and allow issuers to have a voice in whether they are included in a pilot,

(3) pre-announce the measures for benchmarking and tracking the impact of a pilot,

and (4) “measure gross shifts in trading from exchange to off-exchange venues and among off-exchange venues.”

See

notes 47 and 49

supra,

and note 62

infra,

for a discussion of other changes recommended by these three exchanges.

See

Joint Exchange Letter,

supra

note 44, at4-5.

But cf.

IEX Letter,

supra

note 44, at 2 (“The idea that a substantial conflict of interest cannot be addressed unless all other conflicts are addressed simultaneously is not viable.”).

See

Section III.B

infra

(discussing the Commission's decision to include a broader range of securities than the EMSAC recommendation, including NMS stocks with market capitalizations below $3 billion).

See also

Sections V.C.2.b and V.D.3

infra

(discussing the potential costs to small and mid-capitalization issuers).

See

Section III.E

infra

(discussing the measures that the Commission intends to use to benchmark and track the impact of the proposed Pilot).

See

Joint Exchange Letter,

supra

note 44, at4-5.

See also

Section III.E.3

infra

(discussing the order routing data that the Commission intends to use to measure shifts in trading); Section V.E.1

infra

(noting that the Commission can use existing data sources to track shifts in trading between equities exchanges and ATSs).

Other commenters expressed concern regarding the impact of a pilot.

For example, the New York Stock Exchange LLC (“NYSE”) believed that, while the pilot's lowered fee caps in the three test groups would reduce the direct costs paid by broker-dealers to access displayed exchange quotations, it also would effectively limit the rebates paid

by exchanges to attract liquidity, which could “reduce the competitiveness of exchanges relative to dark pools. . . .”

NYSE further argued that the Subcommittee's concept for a pilot was “designed to test investors' and listed companies' tolerance for worsening market quality” since market making and market quality “are largely driven by incentives and corresponding obligations.”

NYSE recommended an alternative initiative that would lower access fee caps, prohibit maker-taker pricing models, and institute a “trade-at” rule.

See, e.g.,

Letter from David M. Weisberger, Managing Director and Global Head, RegOne Solutions, a Markit company, to Brent Fields, Secretary, Commission (October 9, 2015),

available at

https://www.sec.gov/comments/265-29/26529-30.pdf

(raising various questions about proposals to modify access fees, including risks that such proposals could hurt retail investors and lower available liquidity); Letter from John I. Sanders & Benjamin Leighton, Wake Forest School of Law Community Law and Business Clinic (October 20, 2015), at 6-7,

available at

https://www.sec.gov/comments/265-29/26529-33.pdf

(opining that a shift away from maker-taker pricing could affect liquidity and suggesting that the Commission instead focus on utilizing market manipulation rules, limiting order types, and regulating colocation).

NYSE Letter,

supra

note 44, at 3. NYSE was critical of the potential application of access fee caps to non-displayed liquidity, an idea considered but not recommended by the EMSAC, because it believed that such caps on exchanges would advantage ATSs.

Id.

at 5-6.;

but cf.

RBC Capital Markets Letter III,

supra

note 44, at 4 (asserting that the pilot program should cover non-displayed orders on exchanges to ensure complete and accurate data).

See also

infra

Section III.C (discussing the design of the proposed pilot).

See

NYSE Letter,

supra

note 44, at 3.

See id.

at 6. Some commenters seemed to agree with NYSE that a “trade-at” rule should be included in the pilot.

See

Nasdaq Letter,

supra

note 44, at 2. Others opposed inclusion of a “trade-at” rule.

See

RBC Capital Markets Letter III,

supra

note 44 (stating that a “trade-at” rule would be duplicative, given the inclusion of such a component in the Tick Size Pilot, and opining that a “trade-at” rule could obscure data showing the impact of pricing); Healthy Markets Letter I,

supra

note 44, at 4 (noting that inclusion of a “trade-at” rule would increase the pilot's complexity and decrease its utility, but opining that all trading venues should be included in the pilot if a “trade-at” rule is excluded).

See also

infra

Section III.C (discussing the design of the proposed pilot).

Nasdaq suggested the Commission pursue an alternative pilot that caps both fees and rebates, as it believed that more meaningful data would result by removing price from market participants' routing decisions.

Nasdaq also argued that the pilot should apply to all trading centers.

Finally, Nasdaq thought that a two-year term for a pilot would be too long, observing that its own transaction fee experiment suggested that the impact on liquidity

provision

was evident quickly.

See

Nasdaq Letter,

supra

note 44, at 3.

See also

infra

Section III.C.3 (discussing the Pilot's inclusion of a “no-rebate” bucket).

See

Nasdaq Letter,

supra

note 44, at 3.

See also

infra

Section III.A (discussing the Commission's decision to expand on the EMSAC Pilot Recommendation to apply the Pilot to all equities exchanges, but not to ATSs).

See

Nasdaq Letter,

supra

note 44, at 3; Joint Exchange Letter,

supra

note 44, at 5 (recommending that the proposed pilot last no more than one year and that the Commission develop criteria for evaluating the possibility of the pilot's early termination).

see also

notes 52 and 64

supra.

See id.

at 1-4;

see also

notes 48-49

supra.

III. Discussion of the Proposed Pilot

The Commission is proposing to conduct a Transaction Fee Pilot (the “Pilot” or “Transaction Fee Pilot”) for NMS stocks, as described below. In formulating this proposal, the Commission has taken into consideration the recommendation of the EMSAC for an access fee pilot, the views of those submitting comment letters on the EMSAC's proposal, and the information and research described throughout this release. The Commission's proposal, in an effort to more broadly test the impact of transaction fees and rebates, differs from the EMSAC's recommendation in several respects, as discussed further below.

The Commission notes that the proposed Pilot is not designed to test the impact of transaction fees and rebates on all aspects of equities market structure, including market fragmentation and the proliferation of complex order types, but rather focuses on order routing behavior, execution quality, and market quality.

Because the proposed Pilot would apply more broadly to more types of transaction fees beyond only fees to access a protected quotation, the Commission therefore is not characterizing the proposal as an “Access Fee Pilot.”

The following chart summarizes the proposed terms of the Pilot, which are discussed in more detail below:

EP26MR18.000

A. Applicable Trading Centers

The proposed Pilot, consistent with the EMSAC's recommendation, would apply solely to the equities exchanges. The fee cap under Rule 610(c), on which the proposed Pilot is largely based, does not apply to options exchanges.

Specifically, the fee cap under Rule 610(c) applies to NMS stocks on a per share basis whereas options contracts are derivatives that represent a number of shares, typically 100 shares of stock per options contract for a single-stock option, and the current fee cap under Rule 610(c) is not calibrated to account for that difference.

Because options and equities are materially different types of securities, the current fee cap applicable to equities exchanges does not apply, and cannot readily be applied, to options exchanges. If options exchanges were to be included in a pilot, the Commission would first need to create a new type of fee cap to apply to options exchanges and then consider how that cap would impact current options exchange fee models, which would introduce considerable additional complexity.

For these reasons, the Commission is not proposing to include options exchanges in the proposed Pilot.

See

17 CFR 242.610(c) (addressing “fees for the execution of an order . . . in an NMS stock,” where “NMS stock” is defined as “any NMS security other than an option” under 17 CFR 242.600(b)(47)).

As a result, options exchange fees for the execution of one options contract typically far exceed the Rule 610(c) cap of $0.0030.

See, e.g.,

NYSE Arca Options Fee Schedule,

available at

https://www.nyse.com/publicdocs/nyse/markets/arca-options/NYSE_Arca_Options_Fee_Schedule.pdf

(including fees, as of September 2017, of $0.50 for electronic executions that take liquidity in Penny Pilot Issues for Broker-Dealer orders).

See also

EMSAC Pilot Recommendation,

supra

note 28, at 5. None of the comment letters submitted to the EMSAC advocated for including options exchanges in an access fee pilot.

However, the scope of the proposed Pilot would be broader than both the EMSAC's recommendation and Rule 610(c), in that it would include all equities exchanges—including taker-maker exchanges. For example, the proposed Pilot's fee cap in Test Groups 1 and 2 (detailed below) would apply the cap to the take fee on a maker-taker exchange and also would apply the cap to the

maker

fee on a taker-maker exchange.

The EMSAC did not recommend including taker-maker exchanges or ATSs in an access fee pilot because it endeavored to remain consistent with the current market structure, including the Rule 610(c) access fee cap, which only caps fees for

removing

protected quotation

and does not apply to ATSs.

A number of commenters disagreed with the approach recommended by the EMSAC.

These commenters asserted that a pilot would provide more meaningful data if applied more broadly;

one commenter explained that a broader approach would reduce the possibility of “gaming,” as well as provide more accurate testing of order flows.

Another commenter believed that liquidity and market quality on traditional, maker-taker exchanges would suffer unless taker-maker exchanges and ATSs were included in the proposed Pilot.

Another

commenter believed that a pilot should include all equities exchanges and ATSs, but acknowledged that a pilot based on the current parameters of Rule 610(c) would be difficult to apply to taker-maker exchanges and ATSs.

See supra

note 19 (discussing Rule 610(c) and the taker-maker model). The proposed fee caps in Test Groups 1 and 2 (detailed below) would

not

apply to rebates. For example, the proposed Pilot's fee cap in Test Group 2 would

not

apply the cap to the maker rebate on a maker-taker exchange, nor would it apply the cap to the taker rebate on a taker-maker exchange.

See

EMSAC Pilot Recommendation,

supra

note 28, at 5.

See supra

note 49.

See, e.g.,

Nasdaq Letter,

supra

note 44, at 3; IEX Letter,

supra

note 44, at 4 (arguing that inverted exchanges should be included in a pilot because the pilot otherwise would test “only how much distortive pricing can be transferred to these venues”).

See

RBC Capital Markets Letter III,

supra

note 44, at 4.

But cf.

infra

notes 86-93 and accompanying text (acknowledging the potential for “gaming,” but discussing the Commission's decision to exclude ATSs from the Pilot).

See

Nasdaq Letter,

supra

note 44, at 2.

But cf.

infra

notes 89-93 and accompanying text (noting that Nasdaq's fee experiment results would not necessarily be duplicated in an industry-wide pilot and explaining that the Pilot could potentially

improve the competitive position of exchanges vis-à-vis ATSs).

See

Healthy Markets Letter I,

supra

note 44, at 4;

see also

Section III.A

infra

(discussing the difficulties of applying the Pilot to ATSs).

The Commission believes that the proposed Pilot should be designed to broadly study the impact of transaction fees and rebates on order routing behavior, execution quality, and market quality. To achieve a broader study, the Commission preliminarily believes that including all equities exchanges, including taker-maker exchanges, in the proposed Pilot is appropriate. Including all equities exchanges in the proposed Pilot will ensure that the Pilot will collect data on all equities markets that are registered national securities exchanges, whose fees are all subject to the requirements of the Exchange Act and the rule filing requirements thereunder, thus treating equally all similarly situated entities.

However, expanding the proposed Pilot to non-exchange trading centers, such as ATSs, whose fees currently are not subject to Rule 610(c) would have the effect of imposing, in the terms of a pilot, an entirely new regulatory regime on entities whose fees are not currently subject to the substantive and process requirements applicable to exchanges, and that are currently not subject to access fee caps in any respect. The Commission, therefore, believes that doing so would introduce a number of complexities that it preliminarily does not believe are warranted for purposes of this proposed Pilot. In particular, while equities exchanges charge transaction-based fees, ATSs, especially “dark pool” ATSs that are part of a large broker-dealer order handling business, may not charge separate transaction-based fees for executions in their ATSs, and instead might use bundled pricing that does not associate particular orders with particular fees.

Consequently, incorporating ATSs into the proposed Pilot would be substantially more complex if the proposed Pilot required ATSs to radically change their fee models and renegotiate their pricing arrangements with their customers in order to assess fees differently than they do today solely to accommodate the proposed Pilot.

See, e.g.,

Letter from William P. Neuberger and Andrew F. Silverman, Managing Directors and Global Co-Heads of Morgan Stanley Electronic Trading, to Brent J. Fields, Secretary, Commission (May 19, 2016),

available at

https://www.sec.gov/comments/s7-23-15/s72315-37.pdf

(commenting on File No. S7-23-15 concerning regulation of NMS Stock Alternative Trading Systems and noting that ATS fees may be bundled with brokerage services).

See infra

Section V.E.1. (noting that the inclusion of ATSs in the proposed Pilot may not be practical and is likely to substantially increase the costs of the proposed Pilot).

Because the proposed Pilot is designed to study, among other things, the potential conflicts of interest faced by broker-dealers when routing orders as a result of transaction fees and rebates, it is necessary to be able to directly observe the effects of changes in transaction fees and rebates on their trading. As discussed above, some have questioned whether a broker-dealer's economic incentive to avoid transaction-based fees and earn transaction-based rebates impacts its order routing decisions in a manner that creates a misalignment between the broker-dealer's economic interests and its obligation to seek the best execution for its customer's order.

To the extent ATSs do not charge transaction-based fees, it is not practicable to include them in a pilot that is structured to test the impact of changes in transaction fees. Accordingly, the Commission preliminarily believes that excluding ATSs from the proposed Pilot is appropriate, and that broadly applying the Pilot to all equities exchanges, regardless of their pricing model, will allow the proposed Pilot to collect data on the effects of changes in transaction fees and rebates, which will permit the study of, among other things, potential conflicts of interest faced by broker-dealers when routing orders.

See supra

notes 21-22 and accompanying text.

While ATSs would not be subject to the proposed Pilot, data on ATS market share are available from FINRA,

available at

https://otctransparency.finra.org

, which could provide an indication of whether routing to ATSs increase or decrease during the proposed Pilot.

See infra

Section V.C.1.b. (discussing possible changes in routing to ATSs during the proposed Pilot).

The Commission acknowledges the concerns raised by Nasdaq about excluding ATSs from the proposed Pilot.

Specifically, Nasdaq noted that during its fee experiment, when Nasdaq lowered its rebates, liquidity providers “immediately moved their quotes to other exchanges.”

As a result, Nasdaq stated that unless ATSs are included in the pilot “we are likely to find that liquidity and market quality on exchanges will be fundamentally harmed, ultimately to the detriment of public investors” and “[i]ssuers included in the pilot would see a diminishment of transparent quotes, widening of quoted spreads, and an inferior overall trading experience.”

However, as discussed above, unlike for liquidity adding orders, Nasdaq found “no significant changes in the nature of liquidity taking” during its fee experiment.

The Commission believes, as discussed above and as Nasdaq itself observes, that “the results for Nasdaq would not necessarily be duplicated industry-wide if access fees and rebates were reduced across the board.”

For example, the fact that some market participants “immediately moved their quotes to other exchanges” may be because other equities exchanges did not participate in Nasdaq's fee experiment and those market participants who specifically sought to quote on an equities exchange, and not an ATS, responded accordingly by moving some of their activity to equities exchanges that continued to offer rebates. The Commission notes that the proposed Pilot would not impact the ability of an equities exchange to maintain a “protected quote,” an advantage that an ATS does not enjoy, and to the extent that the demand associated with liquidity taking on exchanges remains stable, it could continue to attract liquidity providers desiring that protection despite changes to rebates. Further, the Commission notes that some have argued that high equities exchange maker rebates necessitate high offsetting taker fees, which may cause some liquidity taking order flow to migrate to non-exchange trading centers in search of lower transaction costs.

The proposed Pilot's lower fee caps in Test Groups 1 and 2, discussed below, could possibly improve the competitive position of exchanges vis-à-vis ATSs.

See

Nasdaq Letter,

supra

note 44, at 2.

Id.

See

Nasdaq May Report,

supra

note 31, at 1.

Nasdaq May Report,

supra

note 31, at 1.

See also

EMSAC Pilot Recommendation,

supra

See, e.g.,

BlackRock Inc. Viewpoint, U.S. Equity Market Structure: An Investor Perspective, at 7 (April 2014),

available at

https://www.blackrock.com/corporate/en-us/literature/whitepaper/viewpoint-us-equity-market-structure-april-2014.pdf

(“Reducing the access fee caps is one solution that would narrow the price disparity and lessen the impact of cost in routing decisions. This may also curb the usage of off-exchange venues, such as dark pools and internalizers, as a major benefit of these trading platforms is their cost efficiency relative to exchanges.”) (“BlackRock Viewpoint”).

See id.

Accordingly, the Commission preliminarily believes that it is appropriate to exclude ATSs from the proposed Pilot, which also is consistent

with the EMSAC's recommendation.

The Commission further notes that the inclusion of ATSs is discussed as an alternative in the economic analysis below.

See

EMSAC Pilot Recommendation,

supra

note 28, at 5 (“. . . the Committee does not believe that extending the application of Rule 610(c) to ATSs would be a beneficial part of the pilot given that (i) such limitation does not apply today, (ii) ATSs are not afforded a protected quote, and (iii) ATS transaction fees generally take the form of an institutional commission.”).

The Commission requests comment on the trading centers to be included in the proposed Pilot. In particular, the Commission solicits comment on the following. To the extent possible, please provide specific data, analyses, or studies for support.

1. The proposed Pilot would apply to all equities exchanges. Should the scope be expanded or reduced? If so, what should the scope be? What would be the anticipated impacts of the revised scope?

2. Should the Commission include taker-maker equities exchanges in the proposed Pilot? Why or why not? What would be the anticipated impact of excluding taker-maker equities exchanges from the proposed Pilot?

3. Should the proposed Pilot be expanded to include ATSs? Why or why not? What would be the anticipated impact of including ATSs in the proposed Pilot? If the proposed Pilot were expanded to include ATSs, should all ATSs be included or only certain ATSs? What, if any, are the potential competitive impacts of excluding ATSs from the proposed Pilot? Would including ATSs in the proposed Pilot have any likely effect on ATS business models? To what extent do ATSs charge fees that are not transaction-based? If the proposed Pilot includes ATSs, how should it apply to ATS fees that are not transaction-based? Also, to apply the proposed Pilot to ATSs, would the Commission need to impose other new requirements on ATSs, such as fee disclosure requirements? If ATSs were to be included in the proposed Pilot, would they be able to collect and report the proposed data

or would changes be necessary to accommodate ATSs?

See

Section III.E

infra

for a description of the proposed data.

4. Should the proposed Pilot include options exchanges? Why or why not? What would be the anticipated impact of including options exchanges in the proposed Pilot? How would the quality and extent of the data be impacted by including or excluding options exchanges? What, if any, are the potential impacts, including competitive impacts, of excluding options exchanges from the proposed Pilot? What, if any, are the potential competitive impacts of subjecting options exchanges to fee caps?

B. Securities

The Commission proposes to include in the Pilot all NMS stocks, which includes common stocks and Exchange-Traded Products (“ETPs”), among other securities,

with an initial share price at the time the pre-Pilot Period commences of at least $2, an unlimited duration or a duration beyond the end of the post-Pilot Period, and no restrictions on market capitalization (collectively, “Pilot Securities”).

As discussed below, throughout the duration of the proposed Pilot, including the pre- and post-Pilot Periods, if a Pilot Security in one of the Test Groups closes below $1, the security would be removed from the Test Group and would no longer be subject to the Pilot pricing restrictions.

See

17 CFR 242.600(b)(47) (defining “NMS stock”). The Commission notes that although the EMSAC recommended limiting the access fee pilot to common stocks and ETFs, because Rule 610(c) applies to all NMS stocks, and not just common stocks and ETPs (including ETFs), the Commission preliminarily believes it is appropriate to extend the Pilot to all NMS stocks.

The EMSAC recommended including ETFs, which are open-end fund vehicles or unit investment trusts that are registered as investment companies under the Investment Company Act of 1940. The Commission's proposal uses the broader term of ETPs, which, in addition to ETFs, also includes trust or partnership vehicles that are not registered under the 1940 Act because they do not invest primarily in securities, as well as Exchange-Traded Notes (“ETNs”). ETNs are senior debt instruments that pay a return based on the performance of a reference asset. Unlike the two other categories of ETPs, ETNs are not pooled vehicles, and they do not hold an underlying portfolio of securities or other assets.

See generally

Securities Exchange Act Release No. 75165 (June 12, 2015), 80 FR 34729, 34731 (June 17, 2015) (Request for Comment on Exchange-Traded Products). The EMSAC record, including transcripts of EMSAC meetings, does not contain any substantive discussion of the distinction between ETFs and ETPs. However, all such securities are “NMS stocks” subject to Rule 610(c), and the Commission preliminarily does not believe there is a meaningful basis to justify excluding any of them from the proposed Pilot.

See

17 CFR 242.600(b)(47) (defining “NMS stock”).

See also

proposed Rule 610T(b)(1)(ii) (defining “Pilot Securities”).

See also

proposed Rule 610T(b)(3)(ii)(D) (concerning the Pilot Securities Change List and the capture of the date on which any Pilot Security closes below $1).

While the EMSAC did not specify a minimum price threshold, the Commission is proposing an initial $2 threshold that would apply at the time of the initial Pilot Securities selection, as was done for the Tick Size Pilot. On a continuing basis, the price threshold would be $1, also as was done for the Tick Size Pilot. If a Test Group security's share price closes below $1 at the end of a trading day during the proposed Pilot, it would be dropped from the Test Group and removed from the proposed Pilot.

Under Rule 610(c), stocks with quotations of less than $1 are subject to a structurally different fee cap (based on a percentage of the quoted price) than stocks with quotations of $1 or greater (based on a fixed dollar amount),

and equities exchanges typically also assess fees differently for stocks priced less than $1 (

i.e.,

based on a percentage of the price rather than a fixed fee amount).

100

Accordingly, the $1 minimum continuing price threshold recognizes those distinctions and avoids applying the proposed Pilot's Test Group fixed dollar fee caps to securities below $1 for which a fixed dollar cap would be incompatible with the current existing percentage-based standards applicable to those securities.

101

See

Section III.E.1

infra

(discussing the obligations for primary listing exchanges to maintain Lists of Pilot Securities that will be updated as necessary prior to the beginning of trading on each day the U.S. equities markets are open for trading to communicate changes to Pilot Securities). Stocks in the Control Group that close below $1 would be removed from the Pilot. As discussed below, exchanges would be required to record on the Pilot Securities Change Lists the date that a stock closes below $1.

While Rule 610(c) imposes a cap of $0.0030 for a protected quotation of $1.00 or more, the cap is 0.3% when the protected quotation is less than $1.00.

See

17 CFR 242.610(c).

100

See, e.g.,

New York Stock Exchange Price List,

available at

https://www.nyse.com/publicdocs/nyse/markets/nyse/NYSE_Price_List.pdf

101

For example, applying Test Group 2's $0.0015 cap to a security priced at $0.25, which currently would be subject to a fee cap of $0.00075 under Rule 610(c) (

i.e.,

0.3% of $0.25) would be inapposite.

The Commission preliminarily believes that an initial minimum $2 per share price threshold at the time of the initial stock selection captures substantially all NMS stocks while also providing a cushion so that substantially all of the securities selected for each Test Group will remain part of their respective Test Groups for the duration of the proposed Pilot and not be dropped on account of their share price closing below $1 during the Pilot, as it is uncommon for securities priced at $2 or more to fall below $1.

102

This

initial threshold also will increase the likelihood that the securities in each Test Group remain the same throughout the entire proposed Pilot, which will provide consistency in the Test Groups and avoid any adverse impact caused by changes to the composition of the Test Groups.

103

102

Based on data computed from Center for Research on Securities Prices (CRSP), during the last five years (2012-2016), 94.4% of publicly traded common stocks and ETPs had a share price above $2. Of those stocks, only 4.3% dropped below $1 at any point in that period. In addition, NYSE and Nasdaq can initiate delisting proceedings if a security trades below $1 for a certain period of time.

See, e.g.,

NYSE Listed Company Manual Section 802.01C; Nasdaq Equity Rule 5450(a)(1).

See also

Cboe BYX Rule 14.7(e)(1) (continued listing requirement of a minimum bid price of $1 per share); NYSE Arca Rule 5.2(c) (maintenance requirement of a $5 closing bid price or $3 closing bid price under the alternate listing requirement).

103

Similarly, the requirement that Pilot Securities have an unlimited duration or a duration beyond the end of the post-Pilot Period is intended to avoid selecting stocks that would expire and drop out during the Pilot, which also should provide consistency in the Test Groups and avoid adverse impacts caused by changes to the composition of the Test Groups.

With respect to market capitalization, the EMSAC recommended limiting the pilot to large capitalization stocks with a minimum market capitalization of $3 billion in part to avoid overlap with the Tick Size Pilot, which commenced on October 3, 2016, and is scheduled to last for a two-year period until October 3, 2018.

104

The Commission notes that the Tick Size Pilot may conclude before the proposed Pilot commences, but if not, the Commission believes that the strong support for a pilot in the near term, reflected in the comments summarized above, as well as the proposed Pilot's design, which, as discussed below, would protect the integrity of the data in both pilots, weighs in favor of proceeding expeditiously and not waiting for the Tick Size Pilot to first expire.

105

104

See

EMSAC Pilot Recommendation,

supra

note 28, at 2.

See also

EMSAC Transcript, April 26, 2016,

supra

note 36, at 27:7-15 (reflecting the Subcommittee's desire to run the Tick Size Pilot simultaneously with the Pilot without either program impacting the other).

See also

Investor Alert: Tick Size Pilot Program—What Investors Need to Know,

available at

https://www.sec.gov/oiea/investor-alerts-bulletins/ia_ticksize.html

(summarizing the Tick Size Pilot).

105

See, e.g.,

Healthy Markets Letter I,

supra

note 44, at 5 (noting that “market participants, experts, and policymakers have been clamoring for the Commission to adopt a study to address order routing incentives for years”); RBC Capital Markets Letter III,

supra

note 44, at 1 (“[T]he sooner that a pilot can be approved and commenced, the sooner the Commission will have the benefit of the pilot's data, and the sooner it can implement needed reforms.”); IEX Letter,

supra

note 44, at 4 (“The EMSAC recommendation was issued more than one year ago, and no one believes that concerns over maker-taker pricing have become less relevant since then. We believe that the time to proceed with the pilot is long past due.”).

The Commission preliminarily believes that a more comprehensive pilot covering all NMS stocks, including those with market capitalizations below $3 billion, would produce a more meaningful dataset to facilitate broader analysis of the impact of transaction fees and rebates across the full spectrum of NMS stocks, including both large market capitalization companies with potentially substantial liquidity and trading activity as well as mid- and small capitalization companies with potentially less trading activity. A broader dataset will, in turn, permit the Commission and researchers to perform more in-depth analyses among different segments of the securities market, which may be more informative than a narrower pilot for evaluations of the various theories for how transaction fees and rebates may impact routing behavior, execution quality, and market quality.

For example, some have suggested that transaction rebates are distortive and unnecessary for liquid large capitalization companies because, to the extent that those securities already trade at spreads no wider than the minimum trading increment, the rebate cannot serve to narrow the quoted spread further and the high fee that offsets the rebate undermines price transparency because a quote at the same displayed price on different equities exchanges (with different levels of fees) less closely reflects the actual net price to trade at any one exchange.

106

The limitation or removal of rebates for liquid large capitalization stocks therefore may be less likely to lead to deterioration in market quality in those securities.

107

On the other hand, some have argued that the beneficial aspects of rebates, including their potential to contribute to narrowing quoted spreads, may outweigh their potential for these distortions in mid- and small capitalization securities, which can face persistent challenges in attracting liquidity.

108

Accordingly, transaction rebates may facilitate the provision of beneficial liquidity for mid- and small capitalization securities, and may outweigh any negative distortive impact on broker-dealer incentives, market complexity, or price transparency.

109

106

See, e.g.,

James Angel, Lawrence Harris & Chester Spatt, “Equity Trading in the 21st Century,” Quarterly Journal of Finance 1, (2011),

available at

https://doi.org/10.1142/S2010139211000067

(noting that “[t]he obfuscation makes it more difficult for traders to recognize the true costs of their trading.”) (“Angel, Harris, and Spatt”); Joe Ratterman, Chief Executive Officer, & Chris Concannon, President, BATS, “Open Letter to U.S. Securities Industry Participants Re: Market Structure Reform Discussion,” at 1 (January 6, 2015),

available at

http://cdn.batstrading.com/resources/newsletters/OpenLetter010615.pdf

(“BATS Open Letter”) (arguing that “[a] substantial reduction in access fees, and their corresponding rebates, would help remove conflicts or a perception of conflicts with respect to those highly liquid securities that no longer require liquidity incentives.”).

107

See, e.g.,

BlackRock Viewpoint,

supra

note 91, at 7 (“The value of liquidity and therefore the need for incentives and rebates is not the same across all stocks. Regulators should review whether highly liquid stocks require any rebates at all.”).

108

See, e.g.,

BATS Open Letter,

supra

note 106, at 3 (“. . . BATS does not believe that highly liquid securities require as great a rebate as less liquid securities. . . . ”).

109

See id.

To study these possible effects, the Commission believes it is important to gather data on the impact of fees and rebates on stocks of all market capitalizations. While it is possible that some observations from a pilot focused on large capitalization stocks also could be relevant to mid- and small capitalization stocks, it is likely that other observations could be inapposite, and without including smaller stocks in a pilot, the Commission and researchers would lack data to study the impact on them.

Implementing without undue delay a broad pilot that includes stocks of all market capitalizations could potentially cause the Pilot to overlap with the Tick Size Pilot. Although such an overlap may be unlikely, the proposed Pilot has been designed so that, if necessary, it could proceed simultaneously with the Tick Size Pilot without distorting the effects of either pilot.

110

Specifically, as discussed further below, in the event of an overlap each Test Group would be comprised of two subgroups, one of which contains securities included in the Tick Size Pilot, and one of which does not, enabling the Commission and researchers to identify and control for any possible effects of an overlap.

111

The Commission therefore believes that this proposed Pilot design would protect the integrity of the data in both the proposed Pilot and the Tick Size Pilot, to the extent that the pilots overlap.

112

Staging one transaction fee pilot for large capitalization stocks in

the near term (

i.e.,

that does not overlap with the Tick Size Pilot's $3 billion market capitalization threshold) and conducting a separate, subsequent transaction fee pilot for mid- and small capitalization stocks following the conclusion of the Tick Size Pilot also would achieve that objective. However, the Commission preliminarily believes that it is preferable to proceed expeditiously with a broad transaction fee pilot because the data to be collected from the proposed Pilot, and the analyses that will follow, will help inform the Commission and the public on the potential impact of transaction fees and rebates across all segments of NMS stocks.

110

See

Section III.C

infra

for additional explanation regarding how the Pilot would control for the potential overlap with the Tick Size Pilot. Notably, if the two pilots overlap and the Tick Size Pilot ends before the proposed Pilot (if adopted) ends, the Transaction Fee Pilot's proposed Test Groups would not change. Alternatively, if the two pilots would not overlap at all because the Tick Size Pilot ends before the proposed Pilot (if adopted) commences, then the overlap design discussed below would not be necessary.

See

Section III.C (noting that each Test Group would remain constant for the duration of the proposed Pilot with only limited exceptions).

111

The proposed overlap structure, which can be seen in Test Groups 1(a), 2(a), and 3(a) reflected in the table below titled “Proposed Pilot Design of the Transaction Fee Pilot for NMS Stocks,” is specifically designed to enable comparison between subgroups within a particular Test Group, as well as across Test Groups, to identify any differences between those securities that overlap with the Tick Size Pilot and those that do not.

112

In addition, conducting both pilots simultaneously would increase the amount of data collected while both pilots are active, which may increase the statistical power of tests of the marginal impact of transaction fees or rebates or of different tick sizes. Statistical power refers to the ability for statistical tests to identify differences across samples when those differences are indeed significant.

Further, the Commission preliminarily does not believe that including smaller capitalization stocks in the proposed Pilot should disproportionately harm those issuers, even though it may result in the reduction or elimination of transaction-based rebate incentives

113

that would otherwise be used to attract posted liquidity in those stocks on maker-taker exchanges, as discussed above.

114

While the proposed Pilot would reduce or eliminate rebate incentives to transact in those securities on an exchange for certain Test Groups, the proposed Pilot would not impact the ability of an exchange to maintain a “protected quote,” which may offset the reduced rebate incentive and continue to serve as an incentive to attract liquidity providers.

115

In addition, the proposed Pilot would reduce exchange transaction fees for certain Test Groups, as discussed below, thereby making it less expensive—and consequently more attractive—to transact in those securities on an exchange, which also may offset the reduced rebate incentive and attract liquidity providers. Accordingly, including in the proposed Pilot smaller capitalization companies that are part of the Tick Size Pilot will allow the Commission to collect data in the near term on the impact of transaction fees and rebates on NMS stocks, including smaller capitalization stocks, which may trade differently than large capitalization stocks and thus may be affected differently by changes to transaction fees and rebates.

113

See supra

notes 108-109 and accompanying text for an explanation of the beneficial aspects of rebates for mid- and small capitalization securities.

See also

Section V.C.2.f

infra

for a discussion of the potential impact of subjecting small-capitalization securities to both the Tick Size Pilot and the proposed Pilot.

114

See, e.g.,

EMSAC Pilot Recommendation,

supra

note 28, at 1 (noting that there may not be “any certain or predetermined outcomes from the pilot, and the net effect of many counterbalancing factors are not believed to be significantly beneficial or detrimental to any single group.”).

115

The Commission has a variety of mechanisms to address issues that may arise under the Pilot.

See

15 U.S.C. 78mm.

The Commission requests comment on the securities to be included in the proposed Pilot. In particular, the Commission solicits comment on the following. To the extent possible, please provide specific data, analyses, or studies for support.

5. Is the proposed sample size of securities for the proposed Pilot reasonable? If not, what other selection criteria should be used? What changes should the Commission consider to inclusion or exclusion from the sample set? Should the Commission include a narrower or broader universe of securities? In particular, should only common stocks and ETPs be included in the proposed Pilot and should other types of NMS stocks, like rights and warrants, be excluded from the Pilot? Why or why not? Is the proposed selection method for the Pilot reasonable?

6. Is the inclusion of ETPs appropriate? Does the proposed Pilot design account for relevant distinctions between ETPs and other stocks? Should the proposed Pilot exclude ETPs that are not ETFs?

7. If the Commission excludes ETPs from the proposed Pilot, what would be the effects on the quality and extent of data? How would this impact the study?

8. Should other types of securities be included, such as options? Should certain securities be excluded? Why or why not?

9. If the timing of the proposed Pilot appears likely to coincide with the Tick Size Pilot, would it be reasonable to proceed simultaneously with the proposed Pilot? Why or why not? To the extent that there is no overlap between the proposed Pilot and the Tick Size Pilot, the Commission would not retain the overlap design. Do commenters agree with this approach?

10. Is the initial $2 per share threshold reasonable? Why or why not? Is there another level at which this threshold should be set?

11. Is the $1 per share minimum continuing price threshold reasonable? Why or why not? Is there another level at which this threshold should be set?

12. Should the Commission require a minimum market capitalization? If so, what should be the threshold? What would be the impacts of this revised market capitalization threshold?

13. Should the Commission require a minimum trading volume for NMS stocks in the proposed Pilot?

14. What are the likely effects of the proposed Pilot on issuers and capital formation? In particular, are different types of issuers likely to be affected in different ways by the proposed Pilot, and, if so, how?

15. Should issuers be allowed to opt out of the proposed Pilot or would allowing issuers to opt out adversely affect the proposed Pilot? If so, how? What would be the impact on the extent and quality of the data? For example, could it reduce the representativeness of the results obtained from the Pilot, particularly if those issuers that opt out are predominantly one type of issuer (

e.g.,

small or mid-capitalization issuers)? If issuers were allowed to opt out, should only certain types of issuers be allowed to opt out,

e.g.,

small-capitalization stocks or stocks with low levels of liquidity? How should the Commission consider the benefits and costs on the overall Pilot? How should the costs to issuers and shareholders be measured?

C. Proposed Pilot Design

Pursuant to proposed Rule 610T(b)(1), the Commission would designate by notice the initial List of Pilot Securities. That list would place each NMS stock that meets the initial criteria to be a Pilot Security into one of the three proposed Test Groups or into the Control Group. Each of the three Test Groups would be selected through stratified sampling by market capitalization, share price, and liquidity.

116

The composition of each Test Group would remain constant for the duration of the proposed Pilot, except that the exchanges would update this information, as described below, to reflect changes to the composition of the groups caused by mergers, delistings, or removal from a Test Group due to the share price of a stock closing below $1.

116

Stratified sampling refers to selecting stocks for each Test Group and the Control Group according to predefined criteria. As proposed, the predefined criteria would result in each Test Group and the Control Group containing a group of stocks that, as a group, reflect a similar distribution of market capitalization, share price, and liquidity. For example, when stratifying stocks on the basis of liquidity, each Test Group and the Control Group would have a similar distribution of high, moderate, and low liquidity securities.

Each Test Group would contain 1,000 NMS stocks, with the remainder of eligible NMS stocks to be included in the Control Group. If the proposed Transaction Fee Pilot is adopted and commences before the end of the Tick Size Pilot, the selection of the common stocks for the Transaction Fee Pilot Test Groups would take into consideration the common stocks in the Tick Size Pilot.

117

If the two pilots would not

overlap at all because the Tick Size Pilot ends before the proposed Pilot (if adopted) commences, then the overlap design of dividing each group into two subgroups would not be necessary and each Test Group would simply contain 1,000 NMS stocks without subgroups.

117

Specifically, if the two pilots would overlap, then each of the proposed Transaction Fee Pilot's

three Test Groups would be divided into two subgroups—one that overlaps with the Tick Size Pilot and one that does not overlap. The subgroups that overlap with the Tick Size Pilot would each contain 270 NMS stocks (45 stocks would be selected from each of the three Tick Size Pilot test groups (45 stocks × 3 Tick Size Pilot groups = 135 total), with the remaining 135 stocks coming from the Tick Size Pilot's control group, for a total of 270 common stocks). The subgroups that do not overlap with the Tick Size Pilot would each contain 730 NMS stocks: 150 large-capitalization common stocks, 100 small- and mid-capitalization stocks that do not overlap with the Tick Size Pilot, 260 ETPs, and 220 other NMS stocks. For purposes of the proposed Pilot, large-capitalization common stocks would be common stocks with market capitalizations above $3 billion and conversely, small- and mid-capitalization common stocks would be those with market capitalizations of $3 billion or less.

See

Section III.B

supra

for discussion regarding including securities with market capitalizations above, as well as below, $3 billion in the proposed Pilot.

See also

proposed Rule 610T(b)(2)(ii)(D) (containing fields for certain types of NMS stocks that would be included in the proposed Pilot). The Commission would select stocks from the pool of securities eligible for the Tick Size Pilot in the same manner as it selects the stocks that would not overlap with the Tick Size Pilot.

The Commission preliminarily believes that this design would be representative of the size of the overall population of NMS stocks and would provide sufficient statistical power to identify differences among the Test Groups with respect to common stocks and ETPs.

118

This selection methodology for the Pilot Securities is intended to help ensure that the proposed Transaction Fee Pilot Test Groups would be similar in composition to each other and to the Control Group, as well as to the composition of the Tick Size Pilot test groups. This proposed design would reduce the likelihood that the proposed Transaction Fee Pilot would cause data issues for the study of the Tick Size Pilot and vice versa.

119

118

See supra

note 112 (defining “statistical power”). The Commission preliminarily believes that any reduction in the number of NMS stocks in any particular group could provide less statistical power and thereby affect the conclusions of the Pilot.

119

See

Section V.C.1.a.i.A

infra.

The proposed design ensures that similar proportions of stocks impacted by the Tick Size Pilot would be included in each Test Group of the Transaction Fee Pilot, such that any Tick Size Pilot effects would be uniform across the proposed Pilot. Researchers would therefore be able to control for those effects and minimize any data distortion.

While the EMSAC limited its recommendation by proposing test groups modeled on the current regulatory structure reflected in Rule 610(c), the Commission instead has preliminarily determined to more broadly study the impact of all transaction fees on order routing behavior, execution quality, and market quality.

120

Including all equities exchanges in the proposed Pilot, even those with taker-maker fee models, would ensure that the Pilot will collect data on all equities markets that are registered national securities exchanges, whose fees are all subject to the requirements of the Exchange Act and the rule filing requirements thereunder, thus treating equally all similarly situated entities.

120

The Commission notes that one of the goals of Rule 610(c) was to support the integrity of the price protection requirement established by Rule 611 of Regulation NMS.

See

NMS Adopting Release,

supra

note 1, at 37503 (“Finally and most importantly, the fee limitation of Rule 610 is necessary to support the integrity of the price protection requirement established by the adopted Order Protection Rule. In the absence of a fee limitation, some `outlier' trading centers might take advantage of the requirement to protect displayed quotations by charging exorbitant fees to those required to access the outlier's quotations. Rule 610's fee limitation precludes the initiation of this business practice, which would compromise the fairness and efficiency of the NMS.”).

In addition, as is the case currently under Rule 610(c), the proposed Pilot would permit equities exchanges to charge varied transaction fees for Pilot Securities within each Test Group, so long as such fees comply with the conditions (including the applicable cap) set for that group. The Commission believes that this would allow equities exchanges to continue to compete for order flow by adjusting their access fees within the bounds of the proposed Pilot.

The Commission is proposing to apply the following pricing restrictions to Test Groups 1, 2, and 3, and the Control Group would remain subject to the current access fee cap in Rule 610(c):

EP26MR18.001

1. Test Group 1

For Pilot Securities in Test Group 1, equities exchanges could neither impose, nor permit to be imposed, any fee or fees for the display of, or execution against, the displayed best bid or offer of such market in NMS stocks that exceeds or accumulates to more than

$0.0015

per share. The cap in Test Group 1 would apply to transaction fees assessed on the remover (taker) of liquidity as well as transaction fees assessed on the provider (maker) of liquidity.

121

In other words, the fee cap in Test Group 1 would apply the cap to the take fee charged to the taker on a maker-taker exchange and also would apply the cap to the make fee charged to the maker on a taker-maker exchange.

The EMSAC recommended three test groups, with fee caps of $0.0020, $0.0010, and $0.0002, respectively. The Commission also is proposing three test groups, two with fee caps of $0.0015 and $0.0005, and one that prohibits rebates and Linked Pricing. The Commission preliminarily believes that it is appropriate to test an intermediate reduction in the fee cap. However, because the proposed Pilot includes a no-rebate bucket, the Commission preliminary believes it is preferable to test a cap, set at half of the current $0.0030 cap, rather than two intermediate caps as EMSAC recommended. This approach will allow the proposed Pilot to test more pronounced changes to the status quo without increasing the total number of Test Groups. Accordingly, as discussed below, in addition to the $0.0015 test group, the proposed Pilot also includes a test group of $0.0005 (as proposed Test Group 2) as well as a no-rebate bucket (which EMSAC did not recommend).

122

The Commission preliminarily believes that having a total of three Test Groups would allow the proposed Pilot to test several different scenarios while avoiding overcomplicating the Pilot and would represent a pilot design with which the exchanges are familiar because it aligns

with the Tick Size Pilot's three test groups.

123

122

See infra

Section III.C.2 (discussing proposed Test Group 2) and Section III.C.3 (discussing proposed Test Group 3).

123

Maintaining three test groups for the proposed Pilot would allow it to align closely with the Tick Size Pilot's three test groups, with which the exchanges are familiar. In addition, the proposed Test Groups have been designed to account for overlap between the two pilots and control for the potential that such overlap could possibly affect the results of the Pilot.

See supra

Section III.B.

Finally, the EMSAC's proposed first group would have applied its cap only to fees assessed for removing liquidity, which is consistent with the application of Rule 610(c)'s fee cap.

124

As discussed above, the Commission instead is proposing to apply Test Group 1's cap to fees assessed for removing

or posting

liquidity. In other words, as discussed above, the proposed cap in Test Group 1 would apply to maker-taker pricing as well as taker-maker pricing, which some comments submitted in response to the EMSAC's recommendation supported. The Commission preliminarily believes that applying the cap in Test Group 1 to any fees assessed—including to fees for providing liquidity in a taker-maker pricing model—would help achieve the purpose of the proposed Pilot by applying the test conditions broadly to all equities exchange transaction fees and not just fees for accessing a protected quotation.

124

See supra

note 76 and accompanying text (noting that the Rule 610(c) access fee cap only caps fees for removing a protected quotation).

2. Test Group 2

For Pilot Securities in Test Group 2, equities exchanges could neither impose, nor permit to be imposed, any fee or fees for the display of, or execution against, the displayed best bid or offer of such market that exceed or accumulate to more than

$0.0005

per share. The cap in Test Group 2 would apply to transaction fees assessed on the remover (taker) of liquidity as well as transaction fees assessed on the provider (maker) of liquidity.

125

In other words, the fee cap in Test Group 2 would apply the cap to the take fee charged to the taker on a maker-taker equities exchange and also would apply the cap to the make fee charged to the maker on a taker-maker equities exchange.

The level of the Commission's proposed cap for Test Group 2 is intended to introduce a materially lower cap than Test Group 1 to further reduce the potential distortion created by current levels of rebates, while continuing to permit, for the preponderance of exchange transaction volume, the ability of an exchange to maintain its net profit on a transaction.

126

Specifically, Test Group 2 would prohibit exchanges from charging more than $0.0005 on one side of a transaction, which means an exchange would only have that amount (or less) to fund the rebate it pays to the other side of the transaction, unless it uses other sources of revenue to subsidize the rebate. Therefore, the Commission expects that Test Group 2's $0.0005 cap would significantly reduce, if not eliminate, the likelihood that an exchange would choose to offer rebates at their current levels for Pilot Securities in this group, while nevertheless retaining the ability of exchanges to compete by offering rebates if they so choose.

127

Accordingly, Test Group 2 is designed to test the impact of materially lower rebates

and

fees, where the potentially distortive effects of rebates, and the fees used to fund those rebates, is greatly reduced and thereby gather data on the impact of that reduction on order routing decisions, execution quality, and market quality.

126

For example, if an exchange's base fee to take liquidity is $0.0030 and its base rebate to provide liquidity is $0.0020, the exchange would earn $0.0010 (net capture rate). The proposed cap for Test Group 2 would allow such an exchange to maintain its current net capture rate on such transaction if it charged both sides $0.0005, though charging both sides of a transaction for Test Group 2 securities would result in a change to the exchange's fee model to a “traditional” pricing structure for those securities. As of December 2017, Nasdaq's base take fee was $0.0030 and its base rebate was $0.0020; NYSE's base take fee was $0.0030 and its base rebate was $0.0014; NYSE Arca's base take fee was $0.0030 and its base rebate was $0.0020; and CboeBZX's base take fee was $0.0030 and its base rebate was $0.0020. See, respectively,

http://nasdaqtrader.com/Trader.aspx?id=PriceListTrading2

(Nasdaq),

https://www.nyse.com/markets/nyse/trading-info/fees

(NYSE),

https://www.nyse.com/publicdocs/nyse/markets/nyse-arca/NYSE_Arca_Marketplace_Fees.pdf

(NYSE Arca), and

https://markets.cboe.com/us/equities/membership/fee_schedule/bzx/

(CboeBZX).

127

For example, a maker-taker equities exchange might choose to offer a $0.0004 rebate and charge a fee of $0.0005 for stocks in Test Group 2. In this way, exchanges could continue to compete with one another by offering rebates. Compared to current levels of rebates, which may approach the level of the current $0.0030 cap, a rebate of $0.0004, by comparison, would be materially lower.

3. Test Group 3

For Pilot Securities in Test Group 3, equities exchanges generally would be prohibited from offering rebates, either for removing or posting liquidity, and, as discussed further below, from offering a discount or incentive on transaction fee pricing applicable to removing (providing) liquidity that is linked to providing (removing) liquidity. In addition, for the reason discussed below, Test Group 3 would be unique in that the prohibition on rebates would apply not only to displayed top-of-book

128

liquidity, but also would apply to depth-of-book

129

and undisplayed liquidity.

130

In contrast, Test Groups 1 and 2, like the Rule 610(c) fee cap, only cap fees for the execution of an order against a “protected quotation,” which is defined as an exchange's displayed top-of-book quote.

131

While rebates would be prohibited in Test Group 3, transaction fees for securities in Test Group 3 would remain subject to the current $0.0030 access fee cap in Rule 610(c) for accessing a protected quotation.

132

128

“Top-of-book” means the aggregated best bid and best offer resting on an exchange; in other words, aggregate interest that represents the highest bid (to buy) and the lowest offer (to sell).

See

17 CFR 242.600(b)(7) (defining “best bid” and “best offer”).

129

“Depth-of-book” refers to all resting bids and offers other than the best bid and best offer; in other words, all orders to buy at all price levels less aggressive than the highest priced bid (to buy) or all offers to sell at all price levels less aggressive than the lowest priced offer (to sell).

See

17 CFR 242.600(b)(8) (defining “bid” and “offer”).

130

“Undisplayed” refers to resting orders that are “hidden” and not displayed publicly in the consolidated market data.

See

17 CFR 242.600(b)(13) (defining “consolidated display” and (b)(60) (defining “published bid and published offer”).

See also

infra

notes 136-139 and accompanying text.

131

See

17 CFR 242.600(b)(58) (defining “protected quotation”).

132

In other words, Test Group 3 would prohibit

rebates

for both posting and taking liquidity, but would remain subject to Rule 610(c), which caps

fees

for

taking

liquidity. Test Group 3 would not cap

fees

for

posting

liquidity.

While the EMSAC considered recommending a zero-rebate bucket, its recommendation ultimately did not contain such a component.

133

Several commenters argued, however, that a pilot should either ban rebates altogether or include a “no-rebate” test bucket.

134

In light of the current debate surrounding transaction fees and the particular attention paid to the potential conflict of interest presented by the payment of transaction-based rebates, the Commission believes that the proposed Pilot would be substantially more informative with a no-rebate bucket than a pilot without one, because the no-rebate bucket would allow the proposed Pilot to gather data to test the effects of an outright prohibition on transaction-based rebates. Specifically, if rebates create a conflict of interest for broker-dealers when they decide where to route an order to post or take liquidity, and if those conflicts have an effect on order routing behavior, execution quality, or market quality, then only a complete prohibition on rebates will allow the Commission to study directly these conflicts and their effects by observing what would happen in the absence of rebates. While Test Group 2's low cap should reduce the

likelihood that a market will offer a material rebate because the cap would limit the market's ability to offset the rebate by charging a slightly higher fee to the other side of the transaction, the possibility exists that rebates would nevertheless continue to be offered in Test Group 2. The Commission preliminarily believes that to gather data to study potential conflicts of interest presented by the payment of rebates and the effects they may have on order routing behavior, execution quality, and market quality, it is necessary for the proposed Pilot to establish a test group that entirely prohibits the payment of transaction-based rebates—which some believe drive distortions of those items.

135

At the same time, Test Group 3 would not further restrict the ability of equities exchanges to charge for transaction services. By prohibiting all rebates, but not lowering the existing Rule 610(c) fee cap for Pilot Securities in Test Group 3, equities exchanges would no longer need to charge transaction fees at levels priced to offset the rebates they pay, while at the same time they would retain the ability to charge transaction fees as high as the current $0.0030 cap. Accordingly, Test Group 3 is intended to test, within the current regulatory structure, natural equilibrium pricing for transaction fees in an environment where all rebates are prohibited and exchanges do not need to charge offsetting transaction fees on the contra-side to subsidize those rebates.

133

See

EMSAC Pilot Recommendation,

supra

note 28, at 4. The EMSAC acknowledged that “[c]apping inducements is not an existing component of our market structure.”

Id.

134

See supra

note 48.

135

See, e.g.,

supra

notes 21 (discussing the potential distortions caused by the conflicts of interest faced by broker-dealers in light of conflicting economic incentives to earn rebates, which typically are not passed through by the broker-dealer to its customers, from the trading centers to which they direct orders for execution); 23 (discussing potential distortions of unnecessary market complexity through the proliferation of exchange order types and new exchanges, the incentive to trade off-exchange to avoid high fees, and the indirect ability to quote in sub-penny increments on a net basis); and 106 (discussing potential distortions caused by the high fees that offset rebates, which can undermine price transparency because a quote at the same displayed price on different exchanges (with different fees) does not reflect the actual net price to trade on any one trading center).

As proposed, Test Group 3 would prohibit payment of transaction-based rebates broadly for both posting and removing liquidity. In this respect, the Commission notes that Rule 610(c)'s access fee caps do not currently apply to non-displayed liquidity and depth-of-book quotes, and exchange fee schedules typically do not impose differing fees based on those parameters.

136

The EMSAC noted a theoretical possibility that lower access fee caps could create an incentive for SROs to begin charging

to access non-displayed interest or depth-of-book quotes. However, such differing fees would lead to uncertainty for market participants that remove liquidity as they would not be able to control with absolute certainty whether they interact with such interest.

137

The Commission preliminarily believes that the prospect of market participant objections to the uncertainty regarding what they would expect to pay to remove liquidity would make this outcome highly unlikely.

136

Three equities exchanges do impose differing fees for certain orders based on whether the order is displayed or non-displayed, including: (1) IEX, which incentivizes displayed liquidity by charging a lower transaction fee of $0.0003 for posting or taking displayed interest and imposes a higher fee of $0.0009 per share to post or take non-displayed liquidity; (2) NYSE American, which incentivizes posting of displayed liquidity and imposes a standard fee of $0.0002 per share to remove liquidity or post non-displayed liquidity, though it does offer rebates to eDMMs; and (3) Cboe EDGA, which encourages non-displayed liquidity by not charging transaction fees for posting non-displayed liquidity and charging a low fee to take non-displayed interest, but imposes its standard fee on posting or removing displayed liquidity.

See

Investors Exchange Fee Schedule,

available at https://iextrading.com/trading/fees/; NYSE American Fee Schedule, available at https://www.nyse.com/publicdocs/nyse/markets/nyse-american/NYSE_America_Equities_Price_List.pdf

; and Cboe EDGA Exchange Fee Schedule,

available at https://markets.cboe.com/us/equities/membership/fee_schedule/edga/

. While these exchanges impose differing fees depending on the displayed nature of interest, none pay rebates uniquely for non-displayed orders or depth-of-book interest, and therefore would not be impacted by the application of Test Group 3's prohibition on the payment of rebates to all interest, including non-displayed liquidity and depth-of-book quotes.

137

For example, a liquidity taker's order could interact with displayed or non-displayed liquidity (or both). If fees differed between them, market participants would face uncertainty when making routing decisions over what transaction fees they would incur.

However, in Test Group 3, the possibility of an exchange continuing to offer

rebates

for non-displayed and depth-of-book quotes, while eliminating them on displayed interest, could have the potential to distort the Pilot results to the extent that stocks in Test Group 3 remained subject to the potential conflicts of interest associated with rebates on non-displayed and depth-of-book quotes.

138

Accordingly, to avoid any potential distortion from a narrowly-tailored “no rebate” bucket that was subject to exceptions and permitted rebates to continue to be offered on certain interest, the Commission preliminarily believes it is necessary to outright prohibit payment of any and all rebates in Test Group 3, including non-displayed liquidity and depth-of-book interest. Doing so will permit the Commission to gather data on a “no rebate” environment, thereby allowing the Commission to observe directly the impact of rebates on order routing behavior, execution quality, and market quality by observing an environment where transaction-based rebates are not offered and comparing that to the control group where rebates continue to be offered. In turn, this data may inform the Commission about the extent to which rebates offered by equities markets are compatible with broker-dealers executing their customers' orders in the best market.

139

138

For example, a market participant seeking to take liquidity may have an incentive to route to a taker-maker market that offered rebates for executing against non-displayed interest if the market participant expected to trade both with the full amount of displayed interest and also with non-displayed interest (and thus collect a rebate from interacting with the latter). Alternatively, a liquidity provider could have an incentive to route to a maker-taker market that offered rebates on non-displayed interest if the participant was able to use certain order types to ensure that its order remained non-displayed and executed only as “poster” to earn a rebate. For example, the provider could use a post-only order instruction to ensure that it never takes liquidity (and thus gets assessed a fee) and combine that with an instruction to prevent the order from becoming displayed. In either of these two examples, the market could continue to offer an incentive to earn a rebate on, or by interacting with, non-displayed liquidity, which could distort the results of the proposed Pilot.

139

See

15 U.S.C. 78k-1(a)(1)(C)(iv).

Finally, in addition to prohibiting rebates, Test Group 3 also would prohibit exchanges from offering a discount or incentive on transaction fee pricing applicable to removing (providing) liquidity on the exchange that is linked to providing (removing) liquidity on the exchange (“Linked Pricing”). For example, for Pilot Securities in Test Group 3, an exchange would be prohibited from adopting any discounts on transaction fees to remove (

i.e.,

“take”) liquidity where that discount is determined based on the broker-dealer's posted (

i.e.,

“make”) volume on the exchange, which would result in the broker-dealer paying a lower take fee in return for providing a certain level of liquidity on the exchange. However, as discussed further below, exchanges would not be prohibited from adopting new rules to provide non-rebate Linked Pricing to their registered market makers if the non-rebate discount or incentive is in consideration for meeting market quality metrics specified in an exchange rule.

Prohibiting Linked Pricing for Test Group 3 is designed to support the objectives of that Test Group. Specifically, in Test Group 3, the Commission is seeking to obtain information about what would happen in the absence of the incentive created by offering rebates and the potential conflicts of interest they can present, including what would happen to fee

levels if they no longer subsidize those rebates. For example, if “taker” transaction fees no longer are used to fund “maker” rebates, an exchange's taker fee would no longer be subject to that potential distortion and could be set at an equilibrium level in response to competition, which could put downward pressure on “taker” transaction fees. Accordingly, Test Group 3 is designed to gather data on the impact of creating an environment where fee levels are not potentially distorted by rebates and rebates do not influence routing.

In support of creating such an environment for Test Group 3, exchanges also would be prohibited from introducing new Linked Pricing models that could possibly perpetuate similar potential distortions that maker-taker and taker-maker pricing models may impose on transaction fees. For example, if an exchange adopts Linked Pricing for Test Group 3 securities, it might offer a discounted transaction fee to

remove

liquidity only to those market participants that

post

a certain volume on the exchange. In effect, offering Linked Pricing to market participants in Test Group 3 without first requiring them to meet market quality metrics designed to benefit the overall market could continue to potentially distort transaction fee pricing if the fees are set at a level above their natural equilibrium, within the current regulatory structure, in order to subsidize the Linked Pricing incentive, and also could perpetuate the potential conflicts of interest associated with rebates and order routing.

If, instead of paying rebates, exchanges seek to provide a discount or incentive on transaction fee pricing applicable to removing (providing) liquidity that is linked to providing (removing) liquidity, then equilibrium pricing may not be achieved to the extent that transaction fees are linked in this way. In turn, perpetuating this potential distortion could cloud the Pilot data for Test Group 3 if the Linked Pricing incentive interferes with the proposed Pilot's ability to isolate and analyze the impacts—on both the maker rebate (fee) and the taker fee (rebate)—of eliminating rebates in Test Group 3. Accordingly, the Commission preliminarily believes that prohibiting exchanges from offering not only rebates but also Linked Pricing in Test Group 3 is appropriate to maintain the integrity of Test Group 3 and would facilitate analysis of securities in Test Group 3 consistent with its objective to test the impact of eliminating rebates and the potential distortions that rebates may cause.

While rebates and Linked Pricing would be prohibited broadly for Test Group 3, the Commission proposes to permit an exchange to adopt new rules to provide non-rebate Linked Pricing to its registered market makers during the proposed Pilot in consideration for meeting market quality metrics.

140

Exchanges have an interest in offering incentives to attract broker-dealers to become registered market makers on the exchange and commit to meet market making standards specified in exchange rules so that the exchange can, in turn, use the liquidity provided by its registered market makers to attract buyers and sellers to the exchange. The Commission preliminarily believes that permitting exchanges to adopt new rules to offer Linked Pricing to market makers for Test Group 3 securities preserves the ability of an exchange to attract market makers through non-rebate incentives and thereby helps maintain the baseline framework for registered market makers against which the effects of the proposed Pilot would be assessed.

140

To adopt Linked Pricing for Pilot Securities in Test Group 3 during the proposed Pilot, an exchange would need to propose new market making standards in a proposed rule change filing submitted pursuant to Section 19(b)(2) of the Exchange Act, and also would need to propose the fee incentive it would provide for meeting those standards. For example, an exchange may establish a specified minimum quote size combined with a requirement to be at the national best bid and offer for a designated percentage of the day. In return for meeting those continuous quoting requirements, the exchange might offer its registered market makers a fee discount to remove liquidity.

4. Control Group

NMS stocks selected as Pilot Securities that are not placed in one of the three proposed Test Groups would be placed in the Control Group, which would be approximately the same size as each of the other three Test Groups combined and have a similar composition.

141

Transaction fees for Pilot Securities in the Control Group would remain subject to the current Rule 610(c) access fee cap. Consistent with Rule 610(c), the Control Group would only cap fees for taking (removing) a protected quotation; it would not apply to fees for posting liquidity or otherwise cap or prohibit rebates. The Commission preliminarily believes that having a control group is vital to test the effects of lower transaction fees in the proposed Test Groups and that a control group with the current access fee cap would provide an appropriate baseline for analyzing the effect of the proposed Pilot.

141

NMS stocks (including ETPs) placed in the Control Group must meet the same selection criteria as those NMS stocks placed in Test Groups 1, 2, and 3 (

e.g.,

the NMS stock must have a share price of at least $2 at the time of selection, must maintain a share price of at least $1 per share to remain in the proposed Pilot, and must have an unlimited duration or a duration beyond the end of the post-Pilot Period).

In sum, the Commission preliminarily believes that the proposed size and composition of each of the three Test Groups is appropriate to ensure representativeness of the samples as well as sufficient statistical power across the Control and three Test Groups and therefore will produce a robust sample size for analysis that would allow the Commission and the public to reliably examine, compare, and assess the effects of differing transaction fees and rebates to inform future regulatory initiatives in this area. Further, the Commission preliminarily believes that the proposed Pilot design is appropriately tailored to account for potential overlap with the Tick Size Pilot.

The Commission requests comment on the design of the proposed Pilot. In particular, the Commission solicits comment on the following. To the extent possible, please provide specific data, analyses, or studies for support.

16. Is the proposed Pilot reasonably designed to evaluate the effect of transaction fees on order routing behavior, execution quality, and market quality? Why or why not? Should the Commission implement an alternative design, and if so, what should it be? What would be the impacts of the alternative design?

17. Are the $0.0015 and $0.0005 fee cap levels reasonable? Should the Commission use different caps, for example $0.0002 or $0.0009 for Test Group 2? Should the Commission use the caps suggested by EMSAC (

i.e.,

$0.0020, $0.0010, and $0.0002)?

18. Rather than cap fees for Test Groups 1 and 2, should the pilot instead focus those Test Groups on rebate restrictions? If so, what restrictions and caps should the Commission impose?

19. Are the proposed restrictions in Test Group 3 on rebates and Linked Pricing reasonable? Why or why not? Is the proposed language in Rule 610T(a) clear? For example, is the phrase “impose, or permit to be imposed” sufficiently clear? If not, what alternative language should the Commission use?

20. If volume or liquidity changed for the Pilot Securities in Test Group 3, how, if at all, would such changes impact institutional traders? What volume or liquidity would be impactful? What would be the impact? For example, if fewer liquidity providers post orders in Test Group 3 Pilot Securities because there is no rebate for

them to earn, would institutional traders be more likely to obtain queue priority? Why or why not?

21. If the Pilot data reveals an impact on quoted prices in Test Group 3 where, in the absence of rebates, spreads widen for a certain segment of stocks and ETPs (

e.g.,

those that are moderately liquid), but not others (

e.g.,

those that are highly liquid or those that are highly illiquid), how should the Commission evaluate that impact?

22. Is maintaining the current fee cap of $0.0030 reasonable for Test Group 3, or should the Commission not subject Test Group 3 to the current fee cap in Rule 610(c)? Why or why not? Should the Commission cap fees for Test Group 3 using a different amount?

23. For securities in Test Group 3, where rebates would not be permitted, will competition and market forces produce a market equilibrium that constrains exchange access fees to levels at or below today's current pricing? What do commenters consider to be a reasonable level for exchange transaction fees? If equilibrium transaction fee pricing is achieved, would such forces obviate the need for a fee cap at all? Or would a cap on exchange access fees continue to be necessary to constrain exchange pricing as long as Rule 611 of Regulation NMS imposes order protection requirements applicable to exchanges with protected quotations?

24. Should one or more of the Test Groups eliminate protected quotation status, and thus the order protection requirements of Regulation NMS, for certain securities? Would doing so provide helpful insights into order routing? Why or why not?

25. If analysis of the proposed Pilot data were to suggest that rebates offered by maker-taker exchanges do not affect quoted spreads or contribute to market quality or execution quality for the most actively traded NMS stocks, do commenters believe that the minimum trading increment for those most actively traded stocks should be reduced, for example, to a half-penny? Why?

26. Would there be a sufficient number of stocks and ETPs in each Test Group? Why or why not? Or would fewer stocks and ETPs in each Test Group be capable of providing statistically significant data? If so, how many stocks and ETPs should be included in each Test Group? How would the quality and extent of the data be affected?

27. Should the proposed Pilot overlap with the Tick Size Pilot? If so, does the proposed Pilot design adequately account for potential overlap with the Tick Size Pilot? Why or why not? What are the potential impacts of such overlap for equities exchanges, issuers, and other market participants? How could the Commission better design the proposed Pilot to deal with any overlap between the two pilots?

28. Should Test Group 3's prohibition on rebates and Linked Pricing apply to depth-of-book and undisplayed liquidity? Why or why not? Should the fee caps in the other Test Groups also apply to depth-of-book and undisplayed liquidity? Why or why not?

29. Should the proposed Pilot include a “trade-at” provision that would restrict price matching of protected quotations? Why or why not? How would a “trade-at” component affect the data generated by the proposed Pilot? Should the Commission consider an alternative methodology to evaluate “trade at”?

30. Is the proposed Pilot design subject to any particular limitations with respect to achieving the objectives of the Pilot? Of what kind? How could the proposed Pilot design be improved to prevent such limitations?

31. Should an equities exchange be able to offer rebates in Test Group 1 or 2 in excess of the fees it charges to the contra-side of an execution? For example, should the proposed Pilot prohibit equities exchanges from offering rebates in excess of $0.0015 in Test Group 1 or $0.0005 in Test Group 2? Why or why not?

32. Would increasing transparency for customers into broker-dealer business models and/or trading practices (including, for example, transparency regarding broker-dealer revenue streams, order routing practices, or other matters) be a more effective way of addressing potential broker-dealer conflicts of interest arising from access fees and rebates?

D. Duration

The Commission is proposing a two-year term for the proposed Pilot, with an automatic sunset at the end of the first year unless, prior to that time, the Commission publishes a notice determining that the Pilot shall continue for up to another year. In addition, as discussed below, the Commission is proposing a six-month pre-Pilot Period as well as a six-month post-Pilot Period. The Commission preliminarily believes this approach will give the Commission flexibility and help ensure its ability to gather sufficient data to reliably analyze the Pilot's impact on order routing behavior, execution quality, and market quality.

142

The Commission believes that providers and takers of liquidity need time to gain experience with the different Test Groups, and the proposed Pilot needs to be long enough to make it economically worthwhile for market participants to adapt their behavior.

143

The proposed Pilot should continue to collect data over a sufficiently long period of time that is capable of providing a sample that would have adequate statistical power. The Commission would need to observe developments during the proposed Pilot to determine whether to sunset it.

142

See

EMSAC Pilot Recommendation,

supra

note 28, at 2. The EMSAC recommended an initial three-month phase-in period involving 10 stocks, after which each Test Group would be expanded to include the remaining securities in each group.

See id.

at 2. While a phase-in period would allow markets and market participants to implement the required fee changes in a staged manner and provide an opportunity to address unforeseen implementation issues, the Commission believes that markets and market participants are accustomed to dealing with transaction fee changes and therefore should be readily capable of accommodating the terms of the proposed Pilot with the advance notice provided by the Commission's rulemaking process. Further, though exchanges would be required to collect and report certain data, as described below, the proposed Pilot would not require equities exchanges to make any changes to any of their trading systems, and therefore the Commission preliminarily believes a phased implementation schedule would not be necessary to test changes to outward facing systems.

143

See, e.g.,

EMSAC Transcript, July 8, 2016,

available at

https://www.sec.gov/spotlight/emsac/emsac-070816-transcript.txt

(comments of Joe Mecane noting that “[a]fter further discussion, we thought two years was the right time frame, because the behavioral changes that we think that will result from the pilot program will take . . . some time to filter through the marketplace.”).

The EMSAC recommended a two-year duration for a pilot, and the Commission's rule incorporates the possibility of a two-year pilot. The Commission believes that a two-year duration, with automatic possible sunset at the end of the first year is preferable because it would provide flexibility as the data from the Pilot develops. To suspend the automatic sunset, under proposed Rule 610T(c), the Commission would publish, no later than thirty days prior to the sunset date, a notice on its website and in the

Federal Register

. The Commission could suspend the sunset, for example, if it believed that additional time would help ensure that market developments are fully reflected in the data with sufficient statistical power for analysis. The Commission also, for example, could suspend the sunset if the Commission believed that a potentially disruptive event experienced during the first one-year period counsels in favor of conducting the proposed Pilot for its full two-year term. Alternatively, the Commission could leave the sunset in

place by not publishing a notice if the one-year period was sufficient to fully reflect market developments and the data collected provides adequate statistical power to analyze those developments.

While the Commission considered proposing a shorter period, such as that recommended by Nasdaq,

144

a shorter duration for the Pilot than the proposal (

i.e.,

less than one year) may allow short-term or seasonal events to unduly impact the Pilot data. For example, if the proposed Pilot were only six months long, the Pilot may or may not produce a sufficiently broad set of data capable of permitting analysis into potential conflicts of interest associated with transaction-based fees and rebates and the effects that changes to those fees and rebates have on order routing behavior, execution quality, and market quality.

144

See

Nasdaq Letter,

supra

note 44, at 3.

Further, as noted above, Commission is proposing a six-month pre-Pilot Period as well as a six-month post-Pilot Period. The pre-Pilot Period is intended to gather current data to help establish a baseline against which to assess the effects of the proposed Pilot. The post-Pilot Period is intended to help assess any post-Pilot effects following the conclusion of the proposed Pilot. For both the pre- and post-Pilot Periods, the Commission is proposing to require the equities exchanges to publicly post on their websites the same data they would be required to publicly post for the proposed Pilot.

Finally, as noted above, Nasdaq, NYSE, and Cboe have recommended that the Commission, instead of proceeding with a proposal for a transaction fee pilot, first take final action on two of the Commission's proposed rulemakings (disclosure of order handling information and regulation of NMS stock Alternative Trading Systems) and issue additional guidance on broker-dealers' duty of best execution.

145

IEX criticized those recommendations as delaying tactics motivated by “commercial protectionism” from exchanges whose business models are “completely reliant on the payment of rebates.”

146

The Commission believes that proceeding with a pilot in the near term would be appropriate as it would complement the Commission's other market structure initiatives and would gather data to inform the Commission and the public on the impact of equities transaction fees and whether additional regulatory action is needed or appropriate.

145

See

Joint Exchange Letter,

supra

note 44, at 2-4.

146

See

IEX Letter,

supra

note 44, at 2-3.

The Commission requests comment on the proposed duration for the proposed Pilot, including the pre- and post-Pilot Periods. In particular, the Commission solicits comment on the following. To the extent possible, please provide specific data, analyses, or studies for support.

33. Is the proposed duration long enough for the proposed Pilot to generate data to analyze the impact of transaction fees? If not, what time period should be selected? Is a different time period preferable?

34. Is the provision for an automatic sunset at the end of the first year unless, prior to that time, the Commission publishes a notice determining that the Pilot shall continue for up to another year, reasonable? What factors or conditions would support continuing the proposed Pilot beyond one year?

35. The EMSAC recommended an initial three-month phase-in period involving a limited number of stocks, after which each test group would be expanded to include the remaining securities in each group. As proposed, the Pilot would not include a phase-in period. Would such a period be useful? Why or why not?

36. Are the proposed pre-Pilot and post-Pilot terms sufficient? Should the Commission select different lengths, or gather different data during those periods? Specifically, instead of a 6 month pre- and post-Pilot Period, should the Commission adopt a 3, 4, or 5 month pre-Pilot and post-Pilot Period? Which, if any, of those is the shortest period that would provide sufficient statistical power for analysis, particularly with respect to ETPs? If the Commission requires at least 6 months of pre-Pilot Period data, to what extent could the exchanges access and use historical data to populate the required pre-Pilot data described in Section E below? For example, could exchanges access 3 months of historical data such that the pre-Pilot Period could be structured as a 3 month pre-Pilot Period combined with 3 months of historical data immediately preceding that period, for a total of 6 months of cumulative pre-Pilot data? How much time would be necessary for the exchanges to compile 6 months of historical data?

37. Do commenters believe that the Commission should, before taking action on the proposed Pilot, first take final action on the Commission's proposed rulemakings concerning disclosure of order handling information and regulation of NMS stock Alternative Trading Systems, and/or issue new guidance on broker-dealers' duty of best execution, or do commenters agree that proceeding with the proposed Pilot in the near term would complement the Commission's other market structure initiatives?

E. Data

The Commission preliminarily believes that the following data should be collected and made publicly available as described below in order to facilitate the Commission's ability to assess the impact of the proposed Pilot and, as discussed below, promote transparency about the Pilot Securities as well as basic information about equities exchange fees and changes to those fees during the Pilot.

147

The data and information that is to be made publicly available would be records of the equities exchanges and accordingly, would be subject to the recordkeeping requirements of Rule 17a-1 under the Exchange Act.

See

17 CFR 240.17a-1.

1. Pilot Securities Exchange Lists and Pilot Securities Change Lists

As discussed above, proposed Rule 610T(b)(1) would require the Commission to publish on its website a notice containing the initial List of Pilot Securities,

148

which would identify the securities in the proposed Pilot and assign each of them to a designated Test Group (or the Control Group). While proposed Rule 610T does not impose a deadline by which this notice must be published, the Commission preliminarily expects that it would publish this notice approximately one month prior to the start of the Pilot Period.

148

Proposed Rule 610T(b)(1)(ii) would define “Pilot Securities” for purposes of Rule 610T as the NMS stocks designated by the Commission on the initial List of Pilot Securities pursuant to paragraph (b)(1)(i) of Rule 610T and any successors to such NMS stocks. At the time of selection by the Commission, an NMS stock would be included in the Pilot only if it has an unlimited duration or a duration beyond the end of the post-Pilot Period and a minimum initial share price of at least $2. If the share price of a Pilot Security in one of the Test Groups closes below $1 at the end of a trading day, it would be removed from the Test Group and would no longer be subject to the pricing restrictions set forth in (a)(1)-(3) of proposed Rule 610T.

To account for corporate changes during the proposed Pilot that affect the Pilot Securities, such as name changes, mergers, or dissolutions, proposed paragraph (b) of Rule 610T provides a process to update and publicly disseminate information about changes to the List of Pilot Securities. As discussed and defined further below, the Commission is proposing to require each equities primary listing exchange

149

to publicly post on its

website downloadable files containing a list of its primary listed securities included in the proposed Pilot as well as an updated cumulative list of all changes to any Pilot Security for which it serves as the primary listing market.

150

An exchange would have to include this information on its website as downloadable files that are freely and persistently available and easily accessible by the general public.

151

In addition, the information must be presented in a manner that facilitates access by machines without encumbrance by user name, password, or other access constraints

152

and the files and information therein could not be subject to any usage restrictions, such as restrictions on access, retrieval, distribution, and reuse. Requiring the exchanges to make this information freely and publicly available with completely unencumbered access would facilitate the ability of any person to use the information to conduct and make public research and analyses consistent with the purposes of this Pilot.

149

Proposed Rule 610T(b)(1)(iii) would define “primary listing exchange” for purposes of Rule 610T as a national securities exchange on which an

NMS stock is listed. If an NMS stock is listed on more than one national securities exchange, proposed Rule 610T(b)(1)(iii) provides that the national securities exchange upon which the NMS stock has been listed the longest shall be the primary listing exchange.

150

The Commission notes that the primary listing exchanges maintain public web pages containing similar lists with respect to the Tick Size Pilot. The lists for NYSE and NYSE American listed stocks are available on the NYSE website,

available at

https://www.nyse.com/tick-pilot

. The lists for Nasdaq listed stocks are available on the Nasdaq website,

available at

https://www.nasdaqtrader.com/Trader.aspx?id=TickPilot

151

“Persistently available” means that through the end of the required five-year post-Pilot retention period, all data from the Pilot would need to be continually available on each exchange's website. “Accessible” means that the Pilot data posted by each exchange must be able to be indexed by third party query applications and easily found on each exchange's website.

152

Common access constraints may include: “CAPTCHA” (

i.e.,

“Completely Automated Public Turing Test to Tell Computer and Humans Apart”) constraints, which commonly provide a challenge-response test to determine whether or not the user is human and block access to the information by machines; user name and password access requirements; user registration requirements; and limitations on downloads.

The Commission believes that it is important to maintain an updated list of Pilot Securities so that market participants can know with certainty throughout the duration of the proposed Pilot the Test Group and/or Control Group assignments for all Pilot Securities, thereby avoiding any confusion over how the proposed Pilot affects the stocks in which market participants trade. Further, it is important to maintain detailed information on historical changes to Pilot Securities and their associated Test Groups and/or Control Group in order to ensure that market participants, researchers, and the Commission have ready access to definitive information on the Pilot Securities, which will assist the Commission and researchers in analyzing pilot data and assessing and accounting for changes to any Pilot Securities during the duration of the Pilot, including the post-Pilot Period. The Commission believes that the primary listing exchanges, as defined in proposed Rule 610T(b)(1)(iii), are in the best position to provide this information because they oversee their listed issuers and have rules in place that require listed issuers to report corporate change information to them.

153

Accordingly, the primary listing exchanges are made aware of changes relevant to the proposed Pilot for the securities listed on their markets, and therefore are in the best position to disseminate this information by making it publicly available on their websites.

153

See

NYSE Listed Company Manual Rule 204.18 (Name Change) (requiring listed issuers to provide notice to NYSE of intended name changes 20 days in advance of the date set for mailing the shareholders' proxy materials dealing with the matter); Nasdaq Listing Rule 5250(e)(3)(A) (Record Keeping Change) (requiring listed issuers to provide notice to Nasdaq of name changes no later than 10 days after the change); NYSE Arca Listed Company Manual Rule 5.3-E(i)(1)(i)(D) (Financial Reports and

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