Fund Urges SEC to Rectify Competitive Imbalance between National Securities Exchanges and ATSs

A public comment letter (the “Letter”) submitted to the SEC in response to proposed amendments to Regulation ATS urged the Commission to (i) strengthen the transparency, fairness and resiliency of the Regulation Alternative Trading Systems Proposal (the “Proposal”) and (ii) apply the Proposal to platforms trading government securities.

The Proposal concerns the regulatory requirements of alternative trading systems (“ATSs”) that transact in National Market System stocks (such ATSs, “NMS Stock ATSs”). Though the Letter does provide support for the SEC for “proposing rules that would significantly increase the amount of public information required to be disclosed by NMS Stock ATSs,” it also recommended several ways in which the SEC should revise the Proposal.

Specifically, the Letter recommended that the SEC:

  • require all NMS Stock ATSs to provide fair access to all market participants (under current regulations, an ATS is required only to provide fair access to market participants if the ATS has 5% or more of the average daily trading volume in a security during at least four of the preceding six calendar months);
  • increase the public display of quotations on NMS Stock ATSs by lowering (to 0.25%) or eliminating the trading volume threshold that triggers disclosure (under current regulations, an NMS Stock ATS is required to report only its highest displayed bid and lowest displayed offer if the ATS has 5% or more of the average daily trading volume in a security during at least four of the six preceding calendar months);
  • provide a public comment period for Form ATS-N filings;
  • require all NMS Stock ATSs to provide daily reports on trading volumes (as opposed to the current weekly trading volume reports required under FINRA Rule 4552); and
  • eliminate the exemption of ATSs that trade only in government securities from the requirement to register as national securities exchanges or ATSs.

The Letter reasons that either lowering or eliminating the trading thresholds that trigger order display and fair access requirements would “reduce the competitive imbalance that currently exists between [national securities] exchanges . . . and NMS Stock ATSs,” which is “a dynamic that [otherwise] could undermine the price transparency provided by [national securities] exchanges that is fundamental to the price discovery process for investors.” Additionally, the Letter argues that because a significant amount of the trading of on-the-run U.S. Treasuries occurs on electronic platforms that closely resemble NMS Stock ATSs, it is critical that those electronic trading platforms be subject to appropriate regulatory oversight, including (i) registration with the SEC and (ii) equivalent obligations to NMS Stock ATSs.

Lofchie Comment: The source of the SEC’s authority to apply ATS regulations to government securities is not apparent. Very likely, such regulation would require action by the Treasury, which has authority over government securities broker-dealers pursuant to Section 15C of the Securities Exchange Act. (The “theory” of ATS regulation is that ATSs are “brokers” rather than “exchanges.”)