Brookings Institute on Trading Stocks in America : Key Policy Issues
THE ECONOMICS STUDIES PROGRAM AT THE BROOKINGS INSTITUTE held an event entitled, Trading Stocks in America: Key Policy Issues. Topics discussed included dark pools, tick sizes, payment for order flow, market structure, and technology’s impact on trading.
Panel I
The first panel included Gregg Berman, Associate Director at the Securities and Exchange Commission (SEC), Chester Spatt of Carnegie Mellon’s Tepper School of Business, Daniel Weaver of Rutgers Business School, and Douglas Elliott, Fellow of Economic Studies at the Brookings Institute. Panelists gave their overview on the state of U.S. markets and suggestions for moving forward.
Berman gave his two part hypothesis on markets: 1) “Markets are not broken,” he said, in spite of the current conversation; and 2) It is the debate on market structure that’s broken. “The rhetoric and way we talk about structure needs to be fixed,” Berman said. He said “it is fair to say the market is too complex,” but when the recent problems (i.e. flash crashes) in the market are looked at individually, market fragmentation and complexity were not the issue. “Fat finger trades” and people not doing the basic checks and balances were the issue, Berman said.
The other aspect often heard about, according to Berman, is that the fragmented nature of the markets has led to an increase in the complexity of high frequency trading (HFT). However, HFT dominates the futures market just as easily as the equity market, even though the futures market is much less fragmented than the equity market.
Berman pointed to 3 ingredients of market structure, of which only one is being focused on and that is the flow and speed of orders and cancellations.
The second ingredient is that algorithmic trading is not being used by just those who place orders. An example Berman used focused on large asset managers. The difference, he noted, is that they take liquidity instead of providing it. So if only the liquidity providers are being looked at, then the debate is missing a large swath of the equation.
The other missing ingredient is what is actually being traded.”We started with a world where we primarily had equities trading and now on any given exchange we have a wide array of products,” Berman stated, and that variety of products on an equity exchange drives a lot of the market structure. If the debate continues to exclude these factors then it will only prolong the search for answers, he stated.
Weaver gave a short review of how the market structure came to be what it is today. He discussed his proposal to help spur IPOs that would follow a European model that allows IPOs to pay a liquidity provider and leaves tick size alone.
Spatt also touched on HFT and rapid cancelations, highlighting the SEC’s data which showed placements occurring almost as quickly as cancelations. However, he noted that it is reasonable to expect a close connection between speed of cancelations and executions.
Question & Answer – Panel I
Representative Sean Duffy’s (R-WI-07) tick size legislation was brought up. Spatt said he would prefer the SEC to design the pilot program. Regarding IPOs, Weaver stated that “there is an attitude we have adopted that one size fits all,” but said this attitude is “absolutely false.” He again advocated for his IPO proposal.
Panel II
The second panel focused on differing policy views on issues such as HFT, dark liquidity pools, and payment for order flow. It included Ari Burstein of the Investment Company Institute (ICI); Brain Conroy, President of Fidelity Capital Markets; Jamil Nazarali, Head of Citadel Execution Services; and Thomas Wittman, SVP and Head of U.S. Equities and Derivatives at the NASDAQ OMX Group.
Conroy stated that his firm supports a holistic review of the market. Conroy went on to say that his firm sees a correlation between tick size and capital formation, noting that one advantage to tick size being a penny is the opportunity for spreads to be smaller. “We think that benefits the retail investor,” Conroy said. In regards to capital formation, Conroy said focus should center on the capital formation process itself, not tick size.
Burstein discussed what ICI supports in terms of regulation, including efforts to provide incentives for market participants to use “lit markets” while allowing dark liquidity to remain available; increasing the amount of information available to market participants on how orders are routed and executed; and exceptions for pre- and post trade transparency for larger orders.
According to Nazarali, one issue that needs to be addressed is that while all traders must have access to pools of liquidity, a significant amount of off-market liquidity in dark pools is controlled by broker-dealers. He also stressed the importance of kill switches. In closing, Nazarali stated his support for the SEC’s data driven approach to market reviews.
Question & Answer – Panel II
Panel II was also asked about Duffy’s bill. Nazarali said he would prefer that the SEC design the tick size program not Congress, noting that widening the tick size has the potential to drive more liquidity to dark pools.
For more information please click here.
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THE ECONOMICS STUDIES PROGRAM AT THE BROOKINGS INSTITUTE held an event entitled, Trading Stocks in America: Key Policy Issues. Topics discussed included dark pools, tick sizes, payment for order flow, market structure, and technology’s impact on trading.
Panel I
The first panel included Gregg Berman, Associate Director at the Securities and Exchange Commission (SEC), Chester Spatt of Carnegie Mellon’s Tepper School of Business, Daniel Weaver of Rutgers Business School, and Douglas Elliott, Fellow of Economic Studies at the Brookings Institute. Panelists gave their overview on the state of U.S. markets and suggestions for moving forward.
Berman gave his two part hypothesis on markets: 1) “Markets are not broken,” he said, in spite of the current conversation; and 2) It is the debate on market structure that’s broken. “The rhetoric and way we talk about structure needs to be fixed,” Berman said. He said “it is fair to say the market is too complex,” but when the recent problems (i.e. flash crashes) in the market are looked at individually, market fragmentation and complexity were not the issue. “Fat finger trades” and people not doing the basic checks and balances were the issue, Berman said.
The other aspect often heard about, according to Berman, is that the fragmented nature of the markets has led to an increase in the complexity of high frequency trading (HFT). However, HFT dominates the futures market just as easily as the equity market, even though the futures market is much less fragmented than the equity market.
Berman pointed to 3 ingredients of market structure, of which only one is being focused on and that is the flow and speed of orders and cancellations.
The second ingredient is that algorithmic trading is not being used by just those who place orders. An example Berman used focused on large asset managers. The difference, he noted, is that they take liquidity instead of providing it. So if only the liquidity providers are being looked at, then the debate is missing a large swath of the equation.
The other missing ingredient is what is actually being traded.”We started with a world where we primarily had equities trading and now on any given exchange we have a wide array of products,” Berman stated, and that variety of products on an equity exchange drives a lot of the market structure. If the debate continues to exclude these factors then it will only prolong the search for answers, he stated.
Weaver gave a short review of how the market structure came to be what it is today. He discussed his proposal to help spur IPOs that would follow a European model that allows IPOs to pay a liquidity provider and leaves tick size alone.
Spatt also touched on HFT and rapid cancelations, highlighting the SEC’s data which showed placements occurring almost as quickly as cancelations. However, he noted that it is reasonable to expect a close connection between speed of cancelations and executions.
Question & Answer – Panel I
Representative Sean Duffy’s (R-WI-07) tick size legislation was brought up. Spatt said he would prefer the SEC to design the pilot program. Regarding IPOs, Weaver stated that “there is an attitude we have adopted that one size fits all,” but said this attitude is “absolutely false.” He again advocated for his IPO proposal.
Panel II
The second panel focused on differing policy views on issues such as HFT, dark liquidity pools, and payment for order flow. It included Ari Burstein of the Investment Company Institute (ICI); Brain Conroy, President of Fidelity Capital Markets; Jamil Nazarali, Head of Citadel Execution Services; and Thomas Wittman, SVP and Head of U.S. Equities and Derivatives at the NASDAQ OMX Group.
Conroy stated that his firm supports a holistic review of the market. Conroy went on to say that his firm sees a correlation between tick size and capital formation, noting that one advantage to tick size being a penny is the opportunity for spreads to be smaller. “We think that benefits the retail investor,” Conroy said. In regards to capital formation, Conroy said focus should center on the capital formation process itself, not tick size.
Burstein discussed what ICI supports in terms of regulation, including efforts to provide incentives for market participants to use “lit markets” while allowing dark liquidity to remain available; increasing the amount of information available to market participants on how orders are routed and executed; and exceptions for pre- and post trade transparency for larger orders.
According to Nazarali, one issue that needs to be addressed is that while all traders must have access to pools of liquidity, a significant amount of off-market liquidity in dark pools is controlled by broker-dealers. He also stressed the importance of kill switches. In closing, Nazarali stated his support for the SEC’s data driven approach to market reviews.
Question & Answer – Panel II
Panel II was also asked about Duffy’s bill. Nazarali said he would prefer that the SEC design the tick size program not Congress, noting that widening the tick size has the potential to drive more liquidity to dark pools.
For more information please click here.