Views on improving the integrity of global capital markets
24 March 2016

IEX Exchange Application: SEC’s Reassessment of Reg NMS Critical to Decision

Posted In: Market Structure, US SEC

Judging by the amount of ardent comment letters and acrimony on social media, IEX’s application to become an exchange has incited the passions of investors, market structure advocates, and even the general public like few other issues in modern finance. If the volume and level of discourse is unusual, it is because this issue transcends commercial considerations: It is a proxy vote on the state of the US equity market and whether it is fit for purpose.

Market structure issues rarely attract mainstream media attention. But the IEX application gets to the heart of the integrity of the market, the efficacy of the regulatory framework, and whether investors have a fair opportunity to earn a return.

In this context, CFA Institute has analysed the proposals and concluded that as things stand, a time-delayed exchange is incompatible with the existing regulatory architecture prescribed by Reg. NMS. Among other things, Reg. NMS calls for immediate dissemination of quotes and prices (programmed delays are prohibited). Programmed delays on price dissemination also obfuscate the National Best Bid and Offer (NBBO), which is already beset by latency problems) further complicating best execution. We’ve articulated these views in further detail in this article by my colleague Sviatoslav Rosov, CFA, originally published on TabbFORUM.

This week, the Securities and Exchange Commission (SEC) implicitly acknowledged these challenges by issuing a proposal for public comment on whether latencies below 1 millisecond should be considered “de minimis” (the IEX speed bump is 0.35 milliseconds, or 350 microseconds). If adopted, this change could potentially alleviate the inconsistency of IEX with the “automated quotations” provision (requiring immediate dissemination) under Reg. NMS. However, a possible side effect is the existence of multiple time-delayed exchanges, further fragmenting the market by time as well as space. For example, this New York Post article suggests NYSE and Nasdaq have considered plans for speed bumps of their own.

For supporters of IEX, antagonists of high-frequency trading, and investors who oppose speed-based trading, the SEC proposal on the de minimis exemption is encouraging. But the outcome of this whole process remains highly uncertain. Only time will tell if IEX is granted exchange status — and if so, what the market will look like in order to accommodate it.

CFA Institute is reviewing the SEC proposals. Look for more commentary on this issue in this space and elsewhere.

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Image Credit: xijian

About the Author(s)
Rhodri Preece, CFA

Rhodri Preece, CFA, is Senior Head of Industry Research for CFA Institute. He is responsible for building and maintaining the global research function at CFA Institute, including leading the planning, coordination, and creation of research content across CFA Institute research platforms, which include the Future of Finance, the CFA Institute Research Foundation, the Financial Analysts Journal, and the Enterprising Investor blog. Preece formerly served as head of capital markets policy EMEA at CFA Institute, where he was responsible for leading capital markets policy activities in the Europe, Middle East, and Africa region. Preece is a former member (2014-2018) of the Group of Economic Advisers of the European Securities and Markets Authority (ESMA) Committee on Economic and Markets Analysis. Prior to joining CFA Institute, Preece was a manager at PricewaterhouseCoopers LLP where he specialized in investment funds.

4 thoughts on “IEX Exchange Application: SEC’s Reassessment of Reg NMS Critical to Decision”

  1. Stephen O'Keefe says:

    I’m astounded that the CFAI would oppose this simple measure to prevent front-running of investor orders by HFTs. We’ve come a long way from the AIMR…

  2. Brian Sevilla says:

    If “a time-delayed exchange is incompatible with the existing regulatory architecture prescribed by Reg. NMS,” how do existing exchanges operate given their physical presence? Nothing is ever “immediate.”

  3. Darren Huff, CFA says:

    As is common with technological issues, regulation here needs to catch up to market reality to maintain fairness. The SEC’s punt on the issue of delayed pricing by calling a millisecond de minimis ignores why the agency is even discussing the issue in the first place: long-term investors are seeking a safe haven (in the form of IEX’s 350 microsecond delay) from front-running HFTs. HFT’s and IEX’s success proves that a millisecond delay is de maxima.

  4. Rhodri Preece, CFA says:

    Thanks for your comments. We recognise the importance of this issue for investors and wish to clarify that we are not against IEX; it is a useful innovation and serves a valuable purpose in its current form. The question is whether it will work as an exchange within the current regulatory architecture, an issue that polarises opinion. The latest SEC proposals are a welcome step but a more wholesale examination of market structure is also due. For our latest comments on this topic and further elaboration of our views, see this blog post.

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