This analysis is by Bloomberg Intelligence Director of Market Structure Research Larry R. Tabb and Bloomberg Intelligence Senior Associate Analyst Jackson Gutenplan. It appeared first on the Bloomberg Terminal.
Comments on an SEC proposal to drastically remake equity markets pit an orchestrated form-letter campaign by individuals who vaguely favor many of the changes against the precision opposition of institutions with $40 trillion in assets, retail brokers with over 102 million customer accounts and trading venues that hold 75% of the market, based on our analysis of 14,805 letters. Many of the comments emanated from a limited number of templates in response to the SEC’s four-pronged proposal addressing tick sizes and access fees, transparency, auctions and best execution. The burning question now: How does the SEC measure the massive show of individual opinion against the industry?
Industry comments sound alarms on SEC market-structure overhaul
Key industry stakeholders believe the SEC’s four market-structure proposals lack consideration for how each will overlap and affect the others, which inherently leads to unintended consequences, and systemic risk. Many industry comments also viewed the SEC’s economic analysis as incomplete and cherry-picking data to justify the new rules. That’s based on our analysis of over 250 comment letters submitted in response to the SEC’s planned overhaul.
Industry questions SEC’s economic analysis
Nearly half the comment letters from asset managers, broker-dealers, Congress, trade groups and other stakeholders specifically point to issues with the commission’s economic analysis and justification. Many believe the benefits to investors are overstated, costs understated and risks ignored. As each proposal will drastically change the equity market, one-third of the letters urge an iterative approach, in which effects of each proposal can be evaluated before implementing more changes.
Notably, only one letter suggested a temporary pilot program would be an effective evaluation tool. Instead many firms urge implementation of changes to Rule 605 or the market data infrastructure rule, then re-evaluating market conditions, liquidity and trading costs to see if more changes are needed.
Retail brokers: MDI first, then cautious steps
Retail brokers vehemently raised alarms over the SEC’s proposals, and as they represent over 100 million individual investors, we believe their analysis and cautions should be noted by the commission. Weighted by client accounts, 98% of retail brokers believe the economic analysis is flawed and incomplete. The majority support market data infrastructure (MDI) changes to round lot sizes and transparency in odd-lot liquidity, but the market needs to be re-evaluated after these are implemented and before new rules proceed one at a time.
94% see the retail auctions and SEC best-execution standard as overly prescriptive that will interfere with their own best-ex efforts, and unintended consequences like this outweigh the uncertain benefits.
Institutions oppose, individuals favor SEC-mandated auctions
One of the most contentious components of the SEC proposals is the Order Competition Rule forcing retail marketable orders to be auctioned by exchanges. We analyzed each of the 5,000-plus comments: 70% were form letters, and most of the customized submissions had similar characteristics and seemed to emanate from a few templates that overwhelmingly supported the proposal. Letters from the industry decisively opposed it.
Retail dominates response to order competition rule
The SEC’s Order Competition Rule (OCR) to force marketable retail equity orders into auctions has broad support from individual investors and almost unanimous disdain from the industry. Of almost 5,300 comments, only 74 — less than 1.5% — were submitted by institutions, while 98% came from named or anonymous individuals. Though the preponderance of letters were submitted by people, institutional comments were made by some of the largest asset managers, banks, brokers, exchanges and industry trade organizations. Even some legislators, regulators and the justice department added views on the rule.
Individual comments rail against order flow payments
The nearly 700 text-based, non-form letter (non-PDF) individual comments submitted on the SEC website favored the retail auction proposal. The most popular words used were “wholesaler,” “support,” “auction,” “Citadel,” “conflict” and “PFOF” (payment for order flow). The bulk voiced displeasure that orders were intermediated by a wholesaler, especially Citadel Securities, and that brokers accepted payments, which made them feel their agent was conflicted.
Most of these individually submitted letters, unlike the industry comments, didn’t go into details of the various OCR components; they mainly stated that they were for the proposal and against wholesaler intermediation/PFOF.
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