SEC Chair Warns Markets Change in Trading Rules Is Coming

Equity trading in the US is likely to undergo a major overhaul after a regulatory call for a broad review of stock trading rules is questioning legal mandates related to brokers, an article in Bloomberg speculates.

Payments for Order Flow

Staff at US Securities and Exchange Commission (SEC) was tasked to examine brokers’ requirements for best execution, SEC chair Gary Gensler noted in a speech at the Piper Sandler Global Exchange & FinTech Conference, questioning whether retail investors are getting the best deal for their trades.

The SEC chair, who had previously expressed concerns related to payments for order flow, implied there are inherent conflicts that force brokers to execute trades at advantageous prices and a revamp of regulations may be needed.

He went on to distinguish between brokers which have arrangements for order flow payments and others which do not, implying that these arrangements create incentives for brokers to generate higher trading volume, while investors “do not see their costs as they are executing trades, so they may perceive them as free”.

In the last few months, stock markets saw wild swings for several companies, including GameStop and AMC Entertainment, and raised questions among market analysts and institutional investors about the suitability of current trading rules.

Gensler did not single out names, but judging by market reaction, was pointing his comments to market makers like Citadel Securities LLC and Virtu Financial Inc., which pay retail brokers a fee to execute trade orders for clients. Virtu posted its biggest one-day slump following the comments.

Trades Are Not Free

In an interview following the event, Gensler elaborated on what he had said, questioning the main argument brought up by the brokerage industry that payment arrangements for order flow opened up the market for retail investors to trade stock for free.

“I think that’s a mis-perception — it’s not free trading. It is zero commission, but not necessarily free.”

Gary Gensler, Chair, SEC

Gensler also noted in his conference speech that a significant portion of trading is executed by wholesale brokerages, questioning the accuracy of the NBBO, a national price reference, as a benchmark for the market to determine whether brokers are meeting their requirements for best execution.

Another reason for the uptick in trading Gary Gensler outlined was the availability of “gamification” features utilized by popular trading apps as companies behind the apps have financial incentives to keep consumers engaged with trading since higher trading volumes mean “more payment for order flow for brokers”.

Gensler also noted that the regulatory review will consider the possibility to cut the settlement period of trades, looking to implement same-day settlement.