Friday April 23th, 1999:
William W. Uchimoto, Guest Speaker at the National Regulatory Services Spring Conference
At the National Regulatory Service's spring conference, William W. Uchimoto, ATG™'s Executive Vice President and General Counsel, spoke on Alternative Trading Systems along with Roger G. Coffin of PricewaterhouseCoopers. Over 200 legal and compliance professionals representing major broker-dealer and investment advisory firms attended the three-day conference. The substance of Mr. Uchimoto's speech follows:
On December 2, 1998, the Securities and Exchange Commission (SEC) approved the adoption of regulations that permit alternative trading systems (ATSs) to choose whether to register as national securities exchanges, or to register (or in most cases simply remain being registered) as broker-dealers and comply with clear and concise requirements under new Regulation ATS that vary depending upon the particular ATS's trading volume. In separate regulations, the SEC has liberalized and streamlined the regulatory process so that exchanges can launch pilot trading systems without prior SEC approval.
The SEC underscored the importance of the new regulatory structure as a result of ATSs' growing importance in executing transactions in both listed and NASDAQ securities. In this regard, the SEC cites that ATSs execute approximately 20 percent of the volume in NASDAQ securities and 4 percent of the volume in listed issues. The SEC projects that these figures will triple during the next three years.
ATG™ applauds these bold, new regulations that are clearly deregulatory in nature. They have come at an opportune time. America's financial markets are undergoing a rapid structural change. Market participants, their capital and order flow now trade freely between exchanges and non-exchange markets, principally as a result of the exponential growth of inexpensive communication links, sophisticated technologies and global deregulation. The confluence of these powerful forces is now occurring. In order to be competitive in this quickly evolving marketplace, market participants and marketplaces must recognize this new paradigm and respond by embracing new systems, services and technologies that offer the global investor leading edge information and innovative execution products at cost effective prices. Those who lack this strategic vision will soon see their business niche and market share swept away by these strong new undercurrents. In the new wake, investor choice will reign, providing investors with an increasing array of products and services, available during expanded hours, and at dramatically lower costs.
The new structure is in large part deregulatory. In the past, the SEC was in the middle of virtually all trading system launch decisions. No broker-dealer ATS could prudently move forward with any trading system or enhancements thereto without first obtaining an SEC no-action letter that insulated the ATS from enforcement charges of operating an unregistered exchange. The ad hoc process could be lengthy, legally costly and provided no certainty as to a system launch date until the no-action letter was in hand. Even once a system sponsor had received its no-action letter, the letter covered only the system in its represented configuration. Therefore, any subsequent system change could trigger the need for a new no-action letter.
For registered exchanges, new trading systems could not be implemented without the submission of a comprehensive rule change filing to the SEC that required the agency to first publish the details of the system and solicit comments from competitors and others prior to SEC consideration whether to approve the system. In practice, the SEC had no deadline as to the length of time it might consider the filing. This inflexible and extremely formal process engendered enormous uncertainty as to when and whether any new exchange trading system facility, once filed, would ever see the light of day. The great and unrelenting press of no-action requests and rule change filings on all subjects, including trading system matters, has taxed SEC resources, resulting in inevitable delays in the review and approval process.
Under the new SEC regulations, which do not require SEC pre-approval, trading system companies have the benefit of choosing one or more of the new regulatory pathways for launching such systems. A system can be expeditiously deployed as a "pilot trading system" of a registered exchange or association. To deploy a pilot trading system, the registered exchange or association will file Form Pilot, which provides general information about the pilot system. Form Pilot is strictly a notice filing, which means that SEC approval is not required to begin trading. Twenty (20) calendar days after the filing, the system can commence operating. Thereafter, material changes can be made, such as enhancements to the system or enlargement of the securities eligibility list, by simply amending Form Pilot, and such amendments automatically become effective twenty (20) calendar days after their filing. Trading volume under the pilot would be reported quarterly to the SEC. Under this pilot structure, the system can operate for up to two (2) years, after which the sponsoring exchange or association must file for permanent system approval. Permanent system approval must be sought earlier if the system exceeds certain volume thresholds.
Other implications of the new regulatory market structure include:
Accommodating new trading systems. Regulation ATS requirements are few and minimally burdensome for start-ups with smaller initial volume levels. As a particular ATS's volume increases, the requirements become more stringent. In this regard, any longstanding ATS possessing a large current share of the consolidated volume is now subject to regulations approaching those imposed upon registered exchanges, e.g., adherence to fair access requirements; system capacity, integrity and security standards, and the display of all orders, including those of institutional customer orders, in the public quotations.
For-profit exchanges. The SEC supported the concept that an exchange may be operated as a for-profit, non-member owned enterprise, and recognizes that an existing exchange could relinquish its registered exchange status to operate as a broker-dealer ATS.
(i) New technology and (ii) global competition. The SEC Commissioners and staff at the December 2 meeting expressed a clear consensus view that the impetus behind the new regulatory structure has been (i) new technology and (ii) global competition, and that the former should be encouraged to meet the challenge of the latter.
The SEC now has encouraged trading system companies to consider the opportunities of doing business as a proprietary exchange in fully electronic form. The prestige, independence, and direct access to intermarket linkages, trade reporting mechanisms and clearing facilities obtainable through a registered exchange give rise to distinct benefits. The prospect of operating an exchange through a non-member owned, for-profit organization raises exciting possibilities of market forces truly driving exchange decisions.
To appreciate the impact of the new regulatory structure requires an evaluation of the details of the new regulations. The following outline of the new regulations is structured as follows: Section I. details the new and expanded definition of "exchange"; Sections II., III., and IV. describe Regulation ATS requirements for ATSs opting to operate as broker-dealers (note heightened requirements as ATS increases volume in any particular security); Section V. describes what an ATS must consider in taking the option of registering as a national securities exchange; and Section VII. describes how SROs can launch pilot trading systems without prior SEC approval. |
