New Order Routing Disclosure Rules Will Not Fix Market Fragmentation
After almost ten years of Rule 605 and Rule 606 disclosure rules, the SEC is set to propose new order routing disclosure rules today. This move has been talked about for years by the SEC and we’re glad to see they are finally acting. If you recall back in June 2014, SEC Chair White gave a major speech titled “Enhancing Our Equity Market Structure” where she spoke about the SEC’s plans on order routing disclosures:
“Most investors rightly rely on their brokers to navigate the dispersed market ecosystem on their behalf. But monitoring the execution quality and costs of orders can be difficult for even the most sophisticated investors, given the number of trading venues and order types available to brokers.
As one step to more generally address these issues, I have asked the staff to prepare a recommendation to the Commission for a rule that would enhance order routing disclosures. Rule 606 of Regulation NMS currently requires some public disclosure of broker order routing practices, but it does not cover the large orders typically used by institutional investors. The rule proposal would address this gap by requiring disclosure of the customer-specific information that a broker is expected to provide to each institutional customer on request. While some brokers already voluntarily provide some of this information, a rule is necessary to ensure that the disclosed information is useful, reliable, and uniformly available on request to all institutional customers.”
While we’re happy to see the SEC finally demand more transparency, we think that these new rules will still be addressing the symptoms rather than the disease. The main reason why there are so many conflicts with broker routing is because of unnecessary market venue fragmentation. This is the real problem that the SEC helped create with Reg NMS and has failed to properly address. Fragmentation is the root cause of latency arbitrage. Fragmentation is the reason why the average trade size is less than 200 shares. Fragmentation has helped create venues that offer nothing new but creative fee schedules. Chair White knows this and addressed it in her 2014 speech: