My Take On Tick: Statement On Adoption Of Regulation NMS: Minimum Pricing Increments, Access Fees, And Transparency Of Better Priced Orders, SEC Commissioner Hester M. Peirce, Sept. 18, 2024

The final rule before the Commission today is a significant improvement over the proposal. It replaces an overly granular set of minimum pricing increments with a more reasonable single additional increment at a half-penny; it replaces a one-month review period for determining each security’s appropriate tick size with a more generous three-month review period and makes adjustments to the minimum tick size for each stock only twice a year, rather than once each quarter. It abandons an ill-advised proposal to mandate minimum trading increments across exchange and off-exchange transactions. It provides a longer implementation period and commits the Commission to conducting a study of the rule’s effects and outlines how the Commission will determine whether the rule has achieved the Commission’s objectives.

Together, these changes should reduce operational complexity and potential investor confusion, allow tick-constrained stocks to trade at prices more closely approximating their natural levels, permit continued competition across exchange and non-exchange trading platforms, and lower investors’ costs of trading. Moreover, the accelerated implementation of certain provisions of the market data infrastructure rule, which will bring additional transparency to odd-lot orders, should improve investors’ ability to attain better pricing for certain orders. Because the final rule represents an incremental step toward addressing a problem—tick-constrained stocks—that appears to be broadly recognized by market participants, I support it.

I am not entirely happy, however, with the path we took to get here. Procedural short-cuts leave me less certain about the outcome than I would like to be. Although I supported the proposal, I did so with reservations. Many commenters expressed their own deep misgivings over the needlessly complicated nature of the proposed rule and the difficulty of predicting how multiple, overlapping changes would affect the behavior of market participants, including their willingness to provide liquidity on exchanges. Although the final rule is dramatically simpler than what we proposed nearly two years ago (and thus less likely to result in the harms commenters predicted of the proposal), we would have benefited from another round of comments and a public roundtable on a rule that more closely resembled the final rule we are considering today. Alternatively, the rule could have phased in its requirements over time to lower the risk of significant market disruption from making too many changes at once. Another step in the rulemaking process is painful, but making sure we get such a consequential rule right warrants a little pain.

I am willing to support the final rule notwithstanding these concerns. After extensive conversations with the staff, I am persuaded that the final rule is an appropriate response to the problem of tick-constrained stocks. In addition, the adopting release, as I have already noted, commits the Commission to performing a review that will help provoke reflection by the Commission and vigorous debate both within and outside the Commission about the actual effects of the rule and make it more likely that the Commission will make any necessary adjustments to the rule. I hope this is a step toward a more rigorous and consistent habit of establishing at the outset of the rulemaking process clear metrics by which we plan to measure a rule’s success.

I would like to thank staff in the Division of Trading and Markets, the Division of Economic and Risk Analysis, and the Office of General Counsel for your hard work on addressing commenters’ concerns and developing a recommendation that represents a reasonable step forward. I do have a few questions.

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1. Several commenters strongly urged the Commission to delay adopting this rule, along with the still outstanding best execution and order competition rules, until Rule 605 is fully implemented.[1] Waiting to see the updated Rule 605 data would allow us to determine whether the remaining rules were actually necessary, and would allow for a more reliable comparison of the changes effected by each rule.[2] Why isn’t the right course of action here to delay finalizing this rule until after the Rule 605 amendments are fully implemented and we have a year’s worth (or perhaps two) of data?
2. Some commenters suggested a phased approach to implementing the different changes: implementing market data infrastructure changes first, followed by tick size changes, and only then implementing access fee caps.[3] Such an approach would allow the Commission to assess each of these changes independently of the others. Why doesn’t the final rule take such an approach? Will the Commission be able to determine the independent effect of each of these changes, particularly if market quality worsens after implementation?
3. At least one commenter suggested that the Commission’s rationale in proposing to lower access fee caps is inconsistent with its rationale in pursuing the transaction-fee pilot a few years ago.[4] In that release, the Commission stated that “it ‘lacks the data necessary to meaningfully analyze the impact that exchange transaction fee-and-rebate pricing models have on order routing behavior, market and execution quality, and our market structure generally.’”[5] What has changed six years after the Commission approved that pilot that makes adopting the access fee cap reductions reasonable?
4. Many commenters argued that the Commission should not define tick-constrained solely in terms of average quoted spread. One commenter recommended a multi-factor test that looked to other characteristics of the stock, namely “quoted spread, quote-size-to-trade-size ratio, and notional turnover ratio.”[6] Others suggested other tests that also would look at other factors beyond just average quoted spread.[7] It appears that the general consensus among these commenters is that even under a multi-factor analysis a stock should not be classified as tick-constrained unless its average quoted spread was 1.1 cent or less.[8] The final rule defines tick-constrained as a stock with a time weighted average quoted spread of 1.5 cents or less; it does not look to any of the other factors suggested by commenters. Can you walk me through why you are recommending this approach? What empirical analysis underlies the decision to make an average quoted spread of 1.5 cents or less the sole component of this definition? Are you concerned that there may be thinly-traded securities that fall within this simpler definition of tick-constrained and the execution quality of which might decline when assigned to the half-penny minimum quoting increment?
5. The final rule reduces the access fee cap for stocks with shares priced one dollar or more from 30 mils to ten. I understand that it does this primarily to avoid distortion of quoted prices, but why ten mils and not fifteen, or five, or, for that matter, twelve or eight?
6. I am uncomfortable with the Commission being in the rate-setting business. Let’s envision a world without an Order Protection Rule. Is it unrealistic to allow competitive market forces to determine what access fee for a particular exchange is reasonable?
7. How do you expect the rule to affect on-exchange and off-exchange trading? Do you expect to see a higher proportion of trading volume occurring on lit exchanges?
8. I understand that the adopting release assumes that exchanges will be able to maintain what we estimate to be their net capture of approximately 2 mils per share and thus not adversely affect their business models. This view seems to rest on several assumptions, including that we will not see a significant shift in transaction volume from exchanges to other trading platforms (for example, because lower exchange rebates are less attractive to liquidity providers), or that exchanges will not need to increase rebates to an amount higher than the access fee caps (perhaps subsidizing them from other revenue streams) to attract liquidity. National securities exchanges play a key role in our markets. Let’s assume that their net capture from access fees diminishes significantly. How might this affect the structure of our markets and the ability of exchanges not only to provide trade execution services but to continue innovating as well?
9. Do you expect that the rule will narrow spreads for retail investors? For institutional investors? Please walk me through how potential fragmentation of liquidity across additional ticks affects your view of changes in execution quality after the rule is implemented.
10. What will the Commission be looking at in the study it is committing to conduct on this rule? How will we know, based on this study, that the final rule has been a success?
11. The rule contains no express provision that would allow the Commission to reverse any of these changes absent another rulemaking. If it becomes apparent that the rule is having an adverse effect on market quality, what can the Commission do to address any problems quickly?