2024-21867. Regulation NMS: Minimum Pricing Increments, Access Fees, and Transparency of Better Priced Orders

Commission reference	CFR citation (17 CFR)
Rule 600(b)(69)	§ 242.600(b)(69)
Rule 600(b)(89)	§ 242.600(b)(89)
Rule 600(b)(93)	§ 242.600(b)(93)
Rule 603	§ 242.603
Rule 610	§ 242.610
Rule 612	§ 242.612

I. Introduction

A. Rule 612 Minimum Pricing Increments

1. Background

2. Proposed and Adopted Amendments

B. Rule 610 Fees for Access to Quotations and Transparency of Fees

1. Background

2. Proposed and Adopted Amendments

C. Transparency of Better Priced Orders

1. Background

2. Proposed and Adopted Amendments

D. Overarching Comments on the Proposing Release

II. Equity Market Structure Initiatives and the Regulation NMS Proposal

III. Final Rule 612 of Regulation NMS—Minimum Pricing Increment

A. Issues Raised in the Existing Market Structure Related to Tick Sizes

B. Proposal To Amend Rule 612

C. Final Rule—Minimum Pricing Increments for Orders Priced Equal to or Greater Than $1.00 per Share

1. General Comments and Discussion

2. Specific Comments on the Proposed Minimum Pricing Increments

3. Comments on the Number of Proposed Increments

4. Comments on Small- and Mid-Sized Stocks

5. Comments on Market Resiliency

6. Comments on Proposed Criteria for Assigning Minimum Pricing Increments

7. Rule 612(a)—Definitions

8. Rule 612(b)(1)—Semiannual Operative Dates

9. Rule 612(c)—New NMS Stocks

10. Rule 600(b)(89)—Regulatory Data

D. Minimum Pricing Increment for Trades

IV. Final Rule 610 of Regulation NMS—Fees for Access to Quotations

A. Background

B. Issues Raised in the Existing Market Structure and the Need for the Amendments

1. Amendments to Rule 612

2. Exchange Fee Models

C. Proposal To Amend 610(c)

D. Final Rule 610(c)

1. Comments on Proposed Rule 610(c)

E. Final Rule 610(d) Requiring That All Exchange Fees and Rebates Be Determinable at the Time of an Execution

1. General Comments

V. Final Rule—Transparency of Better Priced Orders

A. Background

B. Final Rule—Round Lots

1. Round Lot Definition

2. Proposed Acceleration of Round Lot Definition

3. Comments and Response

C. Final Rule—Odd-Lot Information

1. Proposed Acceleration of Odd-Lot Information Definition

2. Proposed Amendment to Odd-Lot Information Definition for Best Odd-Lot Orders

D. Display of Round Lots and Odd-Lot Information

1. Comments and Response

E. MDI Rules Implementation

VI. Compliance Dates

A. Final Rule 612 Compliance Date

B. Final Rule 610 Compliance Date

C. Final Compliance Date for Round Lot and Odd-Lot Information

VII. Economic Analysis

A. Introduction

B. Broad Economic Considerations

1. Liquidity and Spread

2. Economics of Minimum Pricing Increments

3. Economics of Access Fees

C. Baseline

1. Tick Sizes

2. Access Fees

3. Round Lots, Odd-Lots, and Market Data Infrastructure

4. Affected Entities and Markets

5. Amendments to Rule 605

D. Benefits, Costs, and Other Economic Effects

1. Modification of Rule 612 To Create a Half-Penny Tick

2. Lower Access Fee Cap

3. Exchange Fees and Rebates Determinable at the Time of Execution

4. Acceleration and Implementation of the MDI Rules and Addition of Information About Best Odd-Lot Orders

5. Compliance Costs

6. Interactions With Recently Adopted Rules

E. Effect on Efficiency, Competition, and Capital Formation

1. Efficiency

2. Competition

3. Capital Formation

F. Reasonable Alternatives

1. Tick Size Alternatives

2. Access Fee Alternatives

VIII. Paperwork Reduction Act

A. Summary of Collection of Information

B. Proposed Use of Information

C. Respondents

D. Total Annual Reporting and Recordkeeping Burden

1. Initial Burden Hours and Costs

2. Ongoing Burden Hours and Costs

E. Collection of Information Is Mandatory

F. Confidentiality

G. Revisions to Current MDI Rules Burden Estimates

IX. Regulatory Flexibility Act

A. Amendments to Rule 612—Final Regulatory Flexibility Analysis

1. Reasons for the Action

2. Small Entities Subject to the Rule

3. Reporting, Recordkeeping, and Other Compliance Requirements

4. Significant Alternatives

B. Amendments to Rule 610

C. Amendments to Rule 603 and Definitions Odd-Lot Information and Regulatory Data Under Rule 600

D. Certification

X. Other Matters

Statutory Authority and Text of Rule Amendments

I. Introduction

Consistent with Congress's directive almost 50 years ago to facilitate the establishment of a national market system,^[1] the Commission is amending certain of its rules to respond to market developments since those rules were adopted, so that those rules continue to benefit investors and the markets. Specifically, the Commission is taking the following actions to continue to fulfill Congress's directive and advance the objectives of investor protection and the maintenance of fair and orderly markets:

• Reduce Transaction Costs for Investors by Reducing Minimum Pricing Increments. The amendments will relax ( print page 81621) existing restrictions on market-wide minimum pricing increments (“tick sizes”), thus reducing transaction costs for investors and relaxing a constraint on price discovery for certain stocks.

The reduced tick size will benefit investors and market participants by: (i) allowing stocks to be priced more efficiently and competitively, therefore lowering costs for investors to trade in those stocks; and (ii) improving liquidity, competition, and price efficiency in the markets.

• Improve Market Quality for Investors by Reducing Access Fee Caps and Increasing Transparency. The amendments will reduce the maximum fees that trading centers ( e.g., securities exchanges) are allowed to charge investors for execution against protected quotations (“access fee caps”). The amendments will also address the lack of transparency around the cost of a transaction at the time of a trade execution by requiring exchange fees and rebates to be determinable at the time of the execution.

The amendments will benefit investors and market participants by: (i) providing for access fee caps that accommodate the change in tick sizes; (ii) providing quotations that are more accurate and reflective of market forces; (iii) mitigating potential conflicts of interest between broker-dealers and their customers, where a broker-dealer is incentivized to route to the exchange offering the most favorable fees or rebates, which can lead to potentially worse execution quality for customers; (iv) reducing the complexity associated with the fees and rebates models; and (v) increasing the transparency of transaction fees and rebates.

• Improve Transparency to Investors about Better Priced Orders. The amendments will increase price transparency by accelerating the implementation of previously adopted definitions of “round lot” and “odd-lot information” and by adding a data element for the best odd-lot orders to buy and sell (“BOLO”) to the definition of “odd-lot information.”

These amendments will improve information available to investors and other market participants about better priced orders in smaller sizes that are available in the market.

In 1975, Congress explicitly granted the Commission “broad authority to oversee the implementation, operation, and regulation of the national market system” and the “clear responsibility to assure that the system develops and operates in accordance with Congressionally determined goals and objectives.” ^[2] The 1975 Amendments and section 11A of the Exchange Act set forth Congress's findings regarding the nation's securities markets and direct the Commission to facilitate the establishment of a national market system in accordance with specified Congressional findings and objectives.^[3]

Since 1975, the Commission has regulated the national market system, adhering to the objectives of efficient, competitive, fair, and orderly markets that are in the public interest and protect investors, which are essential to meeting the investment needs of the public and reducing the cost of capital for listed companies.^[4] The national market system is premised on promoting fair competition among markets, while at the same time assuring that all of these markets are linked together, through facilities and rules, in a unified system that promotes interaction among the orders of buyers and sellers in a particular NMS stock.^[5]

In 2005, the Commission adopted Regulation NMS to modernize and strengthen the regulatory structure of U.S. equity markets, including requirements pursuant to which quotations and orders for NMS stocks, and the markets on which they trade, can compete. These requirements support the public interest and the protection of investors and help to ensure fair and orderly markets for the execution of orders in NMS stocks. Among other things, Regulation NMS provides explicit requirements for the tick sizes of quotations and orders,^[6] the means for market participants to access quotations in the national market system, including a cap on the highest permitted level of fees a trading center may charge for access to the best quotations of a trading center,^[7] and how information about quotations and trades is made widely available to investors, among others.^[8]

Nearly two decades later, the technology and economics of trading have evolved significantly. Transaction volume in listed equities doubled in the last five years and tripled in the last seventeen.^[9] Electronic trading now dominates equity markets, with latency measured in microseconds. These changes call for improvements to assure an efficient and transparent price discovery process, in order to continue to fulfill Congress's directive and advance the objectives of investor protection and the maintenance of fair and orderly markets. However, some parts of Regulation NMS have not been revised since their 2005 adoption. Thus, the Commission is adopting the below described amendments to certain rules under Regulation NMS.^[10] The following ( print page 81622) subsections provide an overview of the amendments and the rationales for each.^[11]

A. Rule 612 Minimum Pricing Increments

1. Background

One way that investors can buy or sell a stock is through the use of limit orders, which are a type of order that specifies the price (“limit price”) at which the investor is willing to buy or sell a security.^[12] Limit orders serve a critical market function by helping to set prices at which market participants are willing to trade, revealing the supply and demand for a security, and providing liquidity to the market. As such, limit orders play a key role in price discovery and allow investors to participate in the price-setting process.^[13]

Recognizing the value of limit orders, the Commission adopted Rule 612 under Regulation NMS, which requires that the prices of quotations and orders in the national market system be reflected in a specified minimum pricing increment, also known as the “tick size.” Rule 612 required, for quotations and orders of NMS stocks priced at or greater than $1.00 per share, the minimum pricing increment to be $0.01.^[14] As a result, subject to certain exceptions,^[15] the quotations and orders of such NMS stocks are priced in penny increments: $10.00, $10.01, $10.02, for example.

The Commission adopted Rule 612 and minimum pricing increments to address the concern that a market participant could gain priority over existing limit orders by posting an economically insignificant price improvement.^[16] For example, consider a market participant that posts a limit order to buy an NMS stock at $10.00 per share. Without minimum pricing increments, a second market participant could “step ahead” (also known as “pennying”) of the first market participant by posting a bid to buy at a price that is higher by an infinitesimally small amount, such as $10.000001.^[17] This behavior disincentivizes market participants from posting a limit order in the first place because another market participant could always gain priority over that first price by posting a limit order that is better by an economically insignificant amount.^[18] This may lead to a decline in limit orders, harm liquidity, and make it more costly to trade.^[19] This hypothetical scenario illustrates the need for a minimum pricing increment that is not too small.

Too big of a minimum pricing increment is also problematic since it would reduce the quality of price discovery by precluding price competition for providing liquidity.^[20] More specifically, too large a tick size can increase transaction costs for investors by artificially widening the “bid-ask spread”—the difference between the bid (highest price a buyer is willing to pay) and the ask (the lowest price a seller is willing to accept) prices.^[21] For example, consider a hypothetical scenario where a liquidity provider is willing to bid $10.121 to buy a stock and offer $10.124 to sell the stock. If the tick size were $0.005, the resulting bid and offer from this liquidity provider would be $10.120 and $10.125, respectively, with a spread of $0.005. If the tick size were $0.01, the corresponding bid and offer would be $10.120 and $10.130, with a spread of $0.01.^[22] In other words, but for the requirement under Rule 612 that sets the tick size to be $0.01 for quotes and orders in NMS stocks priced at or above $1.00, a smaller tick size would have narrowed spreads in some instances and allowed prices to better reflect the underlying economics for certain NMS stocks. As explained below, up to 74.3% of the share volume transacted in NMS stocks in 2023 may have bid-ask spreads that are constrained by the current minimum pricing increments.^[23] These widened bid-ask spreads increase transaction costs for investors.^[24] Conversely, a smaller tick size that allows for narrower bid-ask spreads would benefit investors by reducing transaction costs.^[25]

The minimum pricing increments in Rule 612 were adopted in 2005, when the Commission adopted Regulation NMS, and it was an adjustment in a long series of adjustments to the minimum pricing increments over time. For many decades, the U.S. equity markets used fractions of a dollar as minimum pricing increments ( e.g.,1/8 , 1/16 , and 1/32 of a dollar).^[26] Prior to 1997, the minimum ( print page 81623) pricing increment on the New York Stock Exchange LLC (“NYSE”) for stocks above $1.00 per share was 1/8 of a dollar (or 12.5 cents).^[27] In 1997, NYSE and the Nasdaq Stock Market LLC (“Nasdaq”) revised their rules to use the minimum pricing increment of 1/16 of a dollar (6.25 cents).^[28] In January 2000, the Commission mandated decimal pricing ( i.e., moving from fractional increments to penny increments) in certain securities,^[29] and by April 2001, the market had fully converted to decimal pricing.^[30]

Up to this point, minimum pricing increments for NMS stocks were set by the individual trading venues. But in 2004, as part of Regulation NMS and pursuant to the authority under the 1975 Amendments, the Commission proposed Rule 612 to implement market-wide uniform minimum pricing increments for quoting in NMS stocks.^[31] The Commission stated that, while the benefits of decimal pricing had justified the costs, there was a potential for costs to investors and the markets to surpass the benefits if the minimum pricing increment decreased beyond a certain level, and the proposed rule was designed to address the scenario where market participants attempt to step ahead of competing limit orders at the smallest economic increment possible.^[32] Thus, the Commission adopted Rule 612 in 2005, which established the minimum pricing increments of $0.01 for quotations and orders of NMS stocks priced at, or greater than, $1.00 per share, and $0.0001 for quotations and orders of NMS stocks priced under $1.00 per share. The Commission stated that, at the time, it did not believe that the potential benefits of marginally better prices offered by allowing sub-penny quoting in securities were likely to justify the costs of permitting such quotes.^[33]

When the Commission adopted Rule 612 in 2005, it acknowledged that the markets could evolve over time and shift the balance of the costs and benefits of the adopted tick size.^[34] Two decades later, the market has evolved considerably, and amendments to Rule 612 are necessary to continue to further the objectives of the Exchange Act. Data analysis shows that stocks with sufficiently narrow bid-ask spreads would trade better, namely it would be easier and less costly for investors to transact, if they were allowed to quote at increments smaller than one penny.^[35] Indeed, for these stocks, the risks of “stepping ahead” are lowered while the benefits of greater price competition from relaxing the “tick constraint” are greater.^[36]

2. Proposed and Adopted Amendments

Accordingly, the Commission proposed amendments to Rule 612 to introduce three minimum pricing increments that were less than $0.01 ( i.e., $0.005, $0.002, $0.001) for quotes and orders priced $1.00 or more for certain NMS stocks based upon each stock's time weighted average quoted spread (“TWAQS”).^[37] The proposed amendments would have assigned sub-penny minimum pricing increments to any NMS stock that had a TWAQS of $0.04 or less. This proposed amendment was designed to address the issues related to tick-constrained stocks described above that have arisen since 2005. The Commission also proposed to impose these minimum pricing increments for trades, subject to certain exceptions.

As explained below, in response to commenters, the Commission is adopting modified amendments to Rule 612 to introduce one minimum pricing increment that is less than $0.01, i.e., $0.005, for quotes and orders priced $1.00 or more for NMS stocks that have a TWAQS of $0.015 or less.^[38] The Commission is not adopting a minimum pricing increment for trades.^[39]

B. Rule 610 Fees for Access to Quotations and Transparency of Fees

1. Background

Trading centers ^[40] can choose to charge an access fee, or pay a rebate, to the participants—liquidity providers (market participants with orders resting at the trading center) and liquidity takers (market participants who submit incoming orders to execute against orders resting at the trading center)—who trade at their venue. As discussed in section VII.C.2.b, the predominant exchange fee structure is maker-taker, in which an exchange charges a fee to liquidity takers and pays a rebate to liquidity providers, and the rebate is typically funded through the access fee.^[41]

As adopted in 2005, Rule 610(c) set the access fee cap for protected quotations ^[42] priced at $1 or more at 30 cents per 100 shares (“30 mils” per share) for NMS stocks. Rule 610(c) also applies to any other quotation of a trading center that is the best bid or offer of an exchange or association.^[43] The access fee cap was based, in part, upon the prevailing fees that were charged by certain trading centers at that time.^[44] For NMS stocks priced below $1, the fee cap was set at 0.3% of the quotation price.^[45] Rule 610 was adopted at the same time as Rule 611, the Order Protection Rule, which established intermarket protection ( print page 81624) against trade-throughs ^[46] for all NMS stocks. Rule 610(c) was designed to preclude trading centers that posted protected quotations from raising their fees in an attempt to take improper advantage of the trade-through protections adopted under Rule 611.^[47] The Commission designed the access fee caps to preserve the benefits of both the strengthened price protection under Rule 611 and the more efficient linkages among trading centers that were developed under Regulation NMS to access protected quotations because the benefits could be compromised if substantial fees were charged.^[48]

Since an access fee that is too high when compared to the tick size can create pricing distortions, the access fee caps need to be adjusted in conjunction with the reduction in tick size to prevent such distortions.^[49] In addition, as discussed below, many exchanges charge the maximum fee allowed to access protected quotes, and primarily use those fees to pay rebates to market participants that provide liquidity.^[50] This practice raises a number of concerns and may interfere with section 11A's objectives of ensuring the fairness and usefulness of quotation information.^[51]

First, the actual prices, inclusive of fees and rebates, for investors and other market participants to trade a stock are not fully transparent. In general, the higher the permitted level of access fees, the higher the rebates, and the greater the potential discrepancy between displayed quoted prices on the one hand, and actual prices on the other.^[52]

Furthermore, exchanges' use of fees and rebates creates a potential conflict of interest between broker-dealers and their customers with respect to broker-dealer order routing, by providing incentives for a broker-dealer to route customer orders to certain exchanges to receive higher rebates or avoid higher fees based on their own economic interest.^[53] This potential conflict of interest is exacerbated if broker-dealers do not fully pass on the fees and rebate to their customers, since rebate-seeking by broker-dealers may come at the cost of execution quality of customers.^[54] In addition, exchanges use complex fee schedules. Generally, the higher the access fee cap, the wider the range of possible fees and rebates, which results in more complex pricing schedules. Such complexity makes it more costly for market participants to design and implement order execution strategies.

Finally, exchanges' fee and rebate schedules are typically calculated at month's end, which requires market participants to make trading decisions without the ability to determine their full trading costs at the time of execution.^[55] In turn, this lack of transparency impedes a market participant's ability to evaluate fully where to send its orders because the market participant cannot calculate the fees and rebates that will apply to the order contemporaneous with execution.^[56] Concerns with such lack of price transparency are exacerbated when various exchanges have different fee schedules, as it is difficult for market participants to compare net prices across markets.

2. Proposed and Adopted Amendments

Accordingly, the Commission proposed to amend Rule 610 in two ways. First, to accommodate the proposed smaller minimum pricing increments under proposed Rule 612, as well as to address the distortions that have developed under the access fee caps, the Commission proposed to reduce Rule 610(c)'s 30 mil cap for executions against protected quotations priced $1.00 or more as follows: a $0.001 (or 10 mils) access fee cap for NMS stocks that would have been assigned a minimum pricing increment larger than $0.001; and a $0.0005 (or 5 mils) access fee cap for NMS stocks that would have been assigned a $0.001 minimum pricing increment. For protected quotations in NMS stocks priced under $1.00 per share, the Commission proposed to reduce the 0.3% fee cap to 0.05% of the quotation price.

As discussed in detail below, in response to comments, the Commission is adopting amendments to Rule 610(c) with modifications from the proposal. Specifically, in light of the amendments to Rule 612, the Commission is adopting only the proposed 10 mil per share access fee cap for all protected quotations priced $1.00 or more.^[57] For protected quotations priced less than $1.00, the Commission is adopting an access fee cap of 0.1% of the quotation price per share.^[58] As discussed in section VII.D.2.b, the adopted amendments to the access fee caps will not impede the ability of exchanges to fund their execution services.

Second, to facilitate the ability of market participants to understand and calculate the total price of transactions at the time of execution, the Commission proposed an amendment to Rule 610 to add subpart (d) to require that all exchange fees charged, and rebates paid, for the execution of an order in an NMS stock be determinable at the time of execution. As discussed in detail below, the Commission is adopting Rule 610(d) as proposed.

C. Transparency of Better Priced Orders

1. Background

The widespread availability of timely information with respect to quotations for and transactions in NMS stocks (“NMS information”) is critical to the ability of market participants to participate effectively in the U.S. securities markets.^[59] NMS information is currently disseminated within the national market system by the exclusive plan processors (“exclusive securities information processors” or “SIPs”).^[60]

( print page 81625)

In 2020, the Commission adopted amendments to Regulation NMS to modernize the NMS information provided within the national market system for the benefit of market participants and to better achieve section 11A's goals of assuring “the availability to brokers, dealers, and investors of information with respect to quotations for and transactions in securities that is prompt, accurate, reliable, and fair” (“MDI Rules”).^[61] In light of delays in the implementation of the MDI Rules, the Commission is accelerating the implementation of the round lot and odd-lot information definitions adopted as part of the MDI Rules so that investors will benefit sooner from greater transparency and accessibility of better priced orders ^[62] and improved ability to assess the execution quality of their orders, as explained below.^[63]

Until the full implementation of the MDI Rules, NMS information disseminated within the national market system by the exclusive SIPs includes, for each NMS stock, the price, size, and exchange of each last sale, each exchange's current highest bid and lowest offer and the shares available at those prices (the best bid and best offer or “BBO”), the national best bid and national best offer (“NBBO”), odd-lot ^[64] transaction information, and certain regulatory and administrative data (“SIP data”).^[65] Information on NMS stock quotations is provided in round lots, and, until the round lot definition adopted in the MDI Rules is implemented, round lots are defined in rules of the exchanges.^[66] For most NMS stocks, exchange rules define a round lot as 100 shares.^[67] Market participants interested in quotation data for orders that have a size less than a round lot, i.e., odd-lots, must purchase individual exchange proprietary feeds.^[68] This odd-lot order information is highly relevant to market participants, including for investors who trade small numbers of shares.

The MDI Rules expanded the NMS information that will be made available for dissemination within the national market system in order to increase transparency about better prices available in the market.^[69] The Commission, in the MDI Rules, amended Regulation NMS to include a definition of “round lot” that assigns each NMS stock to a round lot size based on the stock's average closing price. The round lot definition, once implemented, will increase transparency about smaller sized orders in higher priced stocks by assigning NMS stocks priced over $250 to round lot sizes that are less than the predominant 100 shares.^[70] The Commission also adopted a definition of odd-lot information as part of the MDI Rules.^[71] Once implemented, information regarding the prices and sizes of odd-lot orders priced better than the NBBO will be made available within the national market system and is expected to be made widely available to investors.^[72]

For the reasons explained in the MDI Adopting Release, the MDI Rules sequenced the implementation of these definitions in the later stages of the implementation schedule.^[73] The implementation of the MDI Rules began with the filing of amendments to the effective national market system plan(s) as required under Rule 614(e) (“MDI Plan Amendments”).^[74] The Operating Committees of the CTA/CQ Plan and UTP Plan ^[75] filed the proposed MDI Plan Amendments on November 5, 2021,^[76] which the Commission disapproved.^[77] As a result, the participants to the effective national market system plan(s) will need to develop and file new proposed amendments pursuant to Rule 608.^[78]

( print page 81626)

2. Proposed and Adopted Amendments

In light of the delays in the implementation of the MDI Rules, the Commission proposed to accelerate the implementation of the round lot and odd-lot information definitions, to allow investors to benefit sooner from greater transparency and accessibility of better priced orders and improved execution quality.^[79] As discussed further below, the Commission is accelerating the implementation of the round lot and odd-lot information definitions but is providing the industry with more time to make the necessary systems changes to implement these definitions than what was proposed.^[80]

Additionally, the Commission proposed to amend the definition of odd-lot information to include a new data element for the best odd-lot orders available in the market, which would be made available to investors broadly. The Commission is adopting the best odd-lot order to buy and the best odd-lot order to sell as part of odd-lot information as proposed.^[81]

D. Overarching Comments on the Proposing Release

The Commission received comments from a variety of market participants on the Proposing Release.^[82]

Many commenters broadly supported the Regulation NMS Proposal.^[83] Two commenters urged the Commission to promptly adopt the Regulation NMS Proposal.^[84] One commenter urged the Commission to revise and adopt the Rule 605 Proposal as well as the Regulation NMS Proposal without delay.^[85] Another commenter suggested that the Commission prioritize the adoption of the Regulation NMS Proposal ^[86] stating that, of the four EMS Proposals related to equity market structure, the Regulation NMS Proposal “is the least controversial and the least interdependent on the other three, and so is the easiest one for the Commission to move forward” ^[87] and “has garnered the most consensus and support from various market participants.” ^[88]

Some commenters agreed that Rules 610 and 612 should be amended but recommended that the proposed amendments be modified and that the Commission consider more modest, incremental changes to minimize the possibility of unintended consequences and to enable the Commission and market participants to evaluate the impact of the changes on trading and execution quality.^[89]

The issues related to the amended rules have been considered by the Commission and market participants for several years.^[90] Further, the Commission has analyzed data provided by market participants and conducted its own data analysis to inform the amendments that were included in the Proposing Release and in this release.^[91] The Commission has evaluated the national market system and its operation in light of changes in the market and has sought input from market participants throughout this process.^[92] After considering the comments, which are discussed in context below, the Commission is adopting amendments to these rules with certain modifications from the Proposing Release.

The Commission received several comments that addressed the interaction between the different individual proposed rule amendments that made up the Regulation NMS Proposal. One commenter stated that adopting the proposed changes to the minimum pricing increments in proposed Rule 612 along with the proposed acceleration of the round lot definition and the proposed access fee caps in Rule 610 “would impact the value of providing liquidity on public markets and consequently would raise costs for ( print page 81627) investors,” and urged the Commission to review how these changes would together impact liquidity.^[93] The Commission has considered the impact of the amendments on liquidity and does not believe that they will raise costs for investors.^[94] On the contrary, as discussed further below, the amendments will enhance the ability of market participants to price their orders in a competitive manner, reduce the amount of fees for accessing protected quotations, help to ensure that exchange fees are knowable when an order is placed and provide transparency about orders in the market that are priced better than the NBBO. These changes will enhance the operation of the national market system and provide significant benefits to investors.

Another commenter stated that the Regulation NMS Proposal would increase “market data costs” because retail brokers would have to take in and store an increased amount of market data to comply with the changing minimum pricing increments, the MDI Rules' round lot definition, and the odd-lot information requirements and to update their systems accordingly, and because the exclusive SIPs may cause third-party data vendors to require additional hardware to support higher message rates.^[95] As discussed below,^[96] the Commission is adopting amendments to the minimum pricing increments with modifications from the proposal, which will lessen the potential costs identified by the commenter. Specifically, the Commission is adopting one minimum pricing increment for a smaller universe of NMS stocks than was proposed and is reducing the frequency of minimum pricing increment updates from a quarterly to a semiannual basis.^[97] While this additional minimum pricing increment will likely require market participants to incur new technology costs to manage the new data, fewer changes are being adopted than were proposed and these changes are necessary and justified to address the issues related to constraints that have developed with the $0.01 minimum pricing increment.^[98] Further, the costs related to implementing the round lot definition were considered as part of the MDI Rules and the acceleration of the timing of implementation does not increase those costs. Although the Commission is modifying the round lot definition from the definition adopted in the MDI Rules, the modifications will reduce ongoing round lot implementation costs because round lots will be assigned less frequently, i.e., from a monthly basis to a semiannual basis, which means that systems will have to be updated less frequently. Synchronizing the dates of the changes to round lots and minimum pricing increments should also lower ongoing implementation costs for market participants by potentially decreasing the number of updates needed for their trading systems.^[99] Finally, the costs related to implementing the odd-lot information definition were considered in the Proposing Release.^[100] The adopted amendments, which will result in fewer systems changes than anticipated in the Proposing Release, will result in lower implementation costs than were contemplated in the proposal ^[101] and reduce the amount of data disseminated by the exclusive SIPs and any future competing consolidators as compared to what was contemplated in the Proposing Release.

One commenter stated that the implementation of various components of the Proposing Release at or around the same time (specifically access fees, minimum pricing increments and round lot sizes) could complicate the Commission's ability to assess the impact of a specific change and “whether other consequences will ensue.” ^[102] To the specific concerns of this commenter, the Commission has carefully considered the interacting effects of access fees, minimum pricing increments, and round lot sizes, see section VII. While the Commission acknowledges that staging amendments may make them easier to study, the nature of the adopted amendments will still make such study possible, even if implemented together. Namely, the set of stocks for which the tick size change applies tends to differ from the set of stocks for which round lot changes apply.^[103] Access fee changes apply to some stocks that will not be directly affected by either round lot reform or tick size changes. Further, staging the amendments would delay the significant benefits of the amendments.^[104]

Several commenters suggested implementing the proposed accelerated implementation of the round lot and odd-lot information definitions so that the effects of these definitions could inform other proposed changes.^[105] Other commenters suggested that round lots should be implemented before the proposed changes to the minimum pricing increments, so that data based on the MDI Rules' round lots could inform changes to the minimum pricing increments.^[106]

While the dissemination of odd-lot information will result in the display of narrower spreads based on odd-lots, the calculation of the TWAQS for determining minimum pricing ( print page 81628) increments is based on round lots.^[107] Therefore, odd-lot information will not have an impact on determining minimum pricing increments under Rule 612. Further, for the reasons discussed below, the interaction of the reduction in tick size and the MDI Rules' round lot definition will likely not have a material impact on the NBBO of affected stocks since only the most exceptionally liquid stocks would have prices over $250 and a TWAQS equal to or less than $0.015.^[108] Therefore, it is not necessary to postpone amending the minimum pricing increments until data is analyzed using the MDI Rules' round lots.

In addition, the dissemination of odd-lot information in conjunction with the MDI Rules' round lot sizes will increase transparency about better priced orders and therefore should be implemented within a similar time frame.^[109] Odd-lot information will be provided for all NMS stocks, not just those NMS stocks that may be assigned a smaller round lot. As discussed below, the number of NMS stocks that may be assigned a smaller round lot as of November 30, 2023 is 163 NMS stocks.^[110] Therefore, while the MDI Rules' round lot sizes will provide transparency about some better priced orders in higher priced stocks, they will not enhance transparency about those orders that continue to be defined as odd-lots and will not increase transparency for NMS stocks priced at $250 or less. This transparency is important for investors as it will enhance their ability to assess the current pricing in the market for certain NMS stocks. Therefore, the odd-lot information definition and the round lot definition each represents important, but different information that will enhance the usefulness of quotation information.

Some commenters recommended implementing the round lot definition but not the odd-lot information definition,^[111] stating that implementing odd-lot information would be burdensome on the industry,^[112] or would delay the implementation of the round lot definition by increasing the development work needed to be performed by the industry,^[113] or that implementation of the odd-lot information definition “could lead investors to expect prices that are not available.” ^[114] For the reasons discussed above, the implementation of both of these definitions is important to enhancing transparency for investors. The Commission has provided more time for implementing these data elements to accommodate the systems changes that will be necessary, therefore lessening implementation and development burdens on the industry.^[115] Further, as discussed below, market participants may decide to provide information to their customers about the changes that are being implemented, such as how to understand the different prices, and how the changes may impact their order entry requirements. Investor notification and education can help investors understand the operation and impact of these data elements.^[116]

II. Equity Market Structure Initiatives and the Regulation NMS Proposal

In December 2022, the Commission issued three other proposals related to separate aspects of equity market structure and Regulation NMS.^[117] A number of commenters provided comments on all four EMS Proposals jointly.^[118] One commenter stated that adoption of the Rule 605 Proposal is not a prerequisite to adoption of the other equity market structure proposals.^[119] However, some commenters stated that the Commission should consider an incremental approach and stagger the implementation of the four EMS Proposals because of the extent to which the proposed changes could impact the market and investors.^[120] Some ( print page 81629) commenters suggested implementing only some of the proposed equity market structure changes, such as the Rule 605 Amendments or portions of the Regulation NMS Proposal.^[121] Some commenters stated that the Rule 605 Proposal should be implemented first and that data from the changes implemented in the Rule 605 Proposal should be analyzed to assess whether the changes proposed in the Regulation NMS Proposal should be made.^[122] Some commenters stated that, in light of the Commission's approval of the amendments to rule 605, the Commission should defer or suspend action on the Regulation NMS Proposal (and the two remaining EMS Proposals) and re-evaluate whether to proceed after the amendments to rule 605 have been implemented and the data collected following implementation has been analyzed.^[123] One commenter suggested implementing the round lot and odd-lot information definitions after implementation of the Rule 605 Proposal, and thereafter pausing to assess the impact of the changes on the markets.^[124]

The Commission disagrees with comments urging delayed implementation of the Regulation NMS Proposal, either in its entirety or portions of it, as delaying these amendments will delay significant benefits for investors.^[125] The amendments adopted in this release revise several provisions of Regulation NMS to benefit investors. The Commission is adopting amendments to Rule 612 that will benefit investors and other market participants by allowing certain NMS stocks to be priced in increments that are smaller than the preexisting rule allowed, which will lower transaction costs and introduce greater competition on price into the market. The adopted amendments to Rule 610 will lower costs for investors and other market participants by reducing the access fee caps and will help to address distortions in the market associated with the preexisting fee caps. Additionally, the amendments will require all exchange fees charged and rebates paid for the execution of an order to be determinable at the time of execution, allowing investors and other market participants the ability to know with certainty the costs of their transactions at the time of the trade and to allow investors to more readily request details about the fees and rebates applicable to their orders. Accelerating the implementation of the MDI Rules' round lot and odd-lot information definitions will provide investors and other market participants that use SIP data with transparency about better priced quotes and orders that are available in the market but only visible to subscribers of exchange proprietary data feeds sooner than originally planned. The amendments provide important investor benefits, which are discussed throughout. Therefore, the Commission is not delaying adopting the amendments.

With respect to the Rule 605 Amendments, the Commission does not agree with commenters that stated that amended rule 605 data must be analyzed before adoption of the changes in this release.^[126] The amendments adopted in this release are not dependent on rule 605 data nor is the data from rule 605 reports necessary before the Commission makes changes to better protect investors and benefit the markets more broadly.^[127] While the Rule 605 Amendments will bring improvements to disclosures for order executions of NMS stocks,^[128] the Regulation NMS amendments address other structural concerns relating to investors' trading and the lack of transparency in the national market system. For example, quoted spreads for NMS stocks could not get tighter than $0.01 under preexisting Rule 612 for all quotes and orders in NMS stocks that were priced equal to, or greater than, $1.00 per share.

The Commission disagrees with the commenter that stated that the Commission should implement the ( print page 81630) round lot and odd-lot information definitions after the implementation of the Rule 605 Amendments and then wait to assess the effects of these changes.^[129] The commenter stated that it supported the round lot and odd-lot information definitions but stated, without providing details or any other support, that “these changes could have unintended impacts on price discovery, routing complexity, and trading costs.” ^[130] The Commission adopted the definitions in 2020 to provide transparency about better priced orders that are available in the market but are not fully transparent in NMS information. These definitions will result in the provision to market participants of important information about the prices at which market participants are willing to trade and therefore will enhance price discovery. Market participants may have to assess their order routing decisions based on this enhanced transparency of better priced orders that are available in the market.^[131]

As discussed below, the data analysis performed by the Commission and other market participants to assess changes in minimum pricing increments and the access fee caps were not derived from rule 605 reports.^[132] While one commenter stated that rule 605 data should be used to assess the amendments adopted in this release, the Commission has utilized relevant and sufficient data other than rule 605 data that fully and robustly support the amendments.^[133] One commenter states that if this proposal were to be finalized along with the amendments to Rule 605, “it appears that market participants and regulators would be unable to accurately assess the true impact of the market structure changes contained in this Proposal, precluding an `apples-to-apples' before-and-after comparison.” ^[134] However, market participants have other data with which to analyze the effects of these amendments.

Some commenters stated that the EMS Proposals would have an impact on each other.^[135] Some commenters stated that the EMS Proposals should have been analyzed together to assess how the proposals would relate to, and operate with, each other.^[136] One group of members of Congress recommended that no equity market structure rule “should be finalized or implemented” until the Commission “[c]onduct[s] a comprehensive cost-benefit analysis of the aggregate impact of [these rules] and seek[s] public comment on this analysis[,]” and the Commission proposes “a reasonable, workable, and staggered schedule for public comment on the adoption and implementation of the proposals, considering their overlapping nature, significant compliance and operational burdens, and if they may be insurmountable for smaller or emerging firms.” ^[137]

As discussed below in the economic analysis, the Commission uses as a baseline the world as it exists at the time of adoption, including adopted rules but not proposed rules.^[138] Each release, like this release and the Rule 605 Amendments (which were adopted prior to the amendments in this release), explains fully the rationale for the particular rulemaking and includes a robust economic analysis of the rules being adopted, including the possible economic effects that commenters raised with regard to specific interactions between the amendments and the Rule. In addition, comments on how the adoption of the amendments should affect the timing or sequence of the other EMS Proposals will be considered if and when those rules are adopted. The economic analysis considers potential economic effects arising from any overlap in compliance dates between these amendments and other recent amendments.^[139] Similarly, the effects of the amended rules are measured against the existing regulatory baseline, which includes recently adopted rules.^[140]

Commenting on the Proposing Release together with the other EMS Proposals, some commenters requested that the Commission publicly release anonymized subsets of CAT data  ^[141] ( print page 81631) used in connection with the tables and figures in the EMS Proposals' economic analyses.^[142] In the Proposing Release, unlike certain of the other EMS Proposals, CAT data was not used in any tables and figures.^[143] Rather, the Proposing Release used CAT data to determine the numbers of affected broker-dealers in the baseline and compliance cost discussion in the economic analysis, as well as to determine statistics in a reasonable alternative to the proposed amendment that would have imposed a minimum pricing increment for trades.^[144] The CAT information used in this adopting release is narrower still. Specifically, the Commission uses CAT information, consisting of lists of firm names, including firm identifier numbers and account type information, only to determine the numbers of affected firms. The Commission is not releasing anonymized versions of the CAT information used in this release because releasing an anonymized list of firm names would provide no meaningful information beyond the total number of affected firms, which is the same information provided in this release. The Commission described in the Proposing Release and describes in this release the CAT data and methodology used in connection with its estimates.

III. Final Rule 612 of Regulation NMS—Minimum Pricing Increment

Rule 612 of Regulation NMS establishes minimum pricing increments (also known as minimum price variations or tick sizes) for quotations and orders in NMS stocks. Specifically, preexisting Rule 612 stated that “[n]o national securities exchange, national securities association, alternative trading system, vendor, or broker or dealer shall display, rank, or accept from any person a bid or offer, an order, or an indication of interest in any NMS stock priced in an increment smaller than $0.01 if that bid or offer, order, or indication of interest is priced equal to, or greater than, $1.00 per share.” ^[145] Preexisting Rule 612(b) had similar language that applied to bids, offers, orders, and indications of interest in any NMS stock priced less than $1.00 per share and specified that the minimum pricing increment could not be smaller than $0.0001. Preexisting Rule 612 of Regulation NMS did not establish or include minimum pricing increments for transactions.^[146]

A. Issues Raised in the Existing Market Structure Related to Tick Sizes

The Proposing Release contains an extensive discussion of the development and the consideration by the Commission and market participants of Rule 612 since its adoption.^[147] Since the adoption of Rule 612, there has been a marked increase in the trading volume of NMS stocks that would likely be priced with tighter spreads if their pricing was not constrained by the uniform $0.01 minimum pricing increment required by preexisting Rule 612 for quotes and orders all NMS stocks priced equal to, or greater than, $1.00 per share. Easing constraints on ticks for these NMS stocks will reduce transaction costs for market participants, including investors, and allow prices to be determined in a more competitive manner. In other words, the number and volume of NMS stocks that could benefit from the ability to quote in a minimum pricing increment that is smaller than $0.01 ( i.e., sub-pennies) has grown.

In the Proposing Release, the Commission considered data to evaluate and determine which NMS stocks, by number and by volume, would benefit from a reduced minimum pricing increment for quotes and orders that would allow for tighter spreads. While the Commission could not estimate the number of stocks that would have a TWAQS of $0.008 or less due to the preexisting Rule 612 requirement that all orders priced equal to greater than $1.00 per share have a $0.01 minimum pricing increment, the Commission could estimate that 1,707 stocks, which represented approximately 64% of share volume and 37.9% of dollar volume in January through May 2022, had TWAQS that were less than $0.016.^[148] Additionally, 2,648 stocks, which represented approximately 17.9% of share volume and 22.3% of dollar volume in January through May 2022, traded with a spread that was greater than $0.016 and less than or equal to $0.04. More recently, the Commission analyzed NMS stocks in 2023 and identified 2,420 NMS stocks that had a TWAQS of $0.015 or less; these NMS stocks represent about 74% of share volume and about 47% of dollar volume.^[149]

Prior to the Proposing Release, certain market participants conducted data analyses on the effects of Rule 612 and concluded that a $0.01 minimum quoting increment may not be appropriate for all NMS stocks that are priced greater than or equal to $1.00.^[150] The Commission discussed these data analyses in the Proposing Release.^[151] One of these market participants, Cboe, submitted updated data analysis in two comment letters to the Proposing Release.^[152]

( print page 81632)

B. Proposal To Amend Rule 612

The Commission proposed variable minimum pricing increments for quotes and orders for NMS stocks priced at, or greater than, $1.00 per share based on the TWAQS of a particular NMS stock. The Commission also proposed that the minimum pricing increment for executions be the same as, and correlate to, the minimum pricing increment for quoting on all trading venues ( i.e., on-exchange and OTC), subject to certain exceptions.

Specifically, the Commission proposed that the minimum pricing increments for quotations, orders and executions in NMS stocks that are priced equal to or greater than $1.00 per share would be variable and no smaller than: (1) $0.001 if the TWAQS ^[153] for the NMS stock during the Evaluation Period ^[154] was equal to, or less than, $0.008; (2) $0.002, if the TWAQS for the NMS stock during the Evaluation Period was greater than $0.008 but less than, or equal to $0.016; (3) $0.005, if the TWAQS for the NMS stock during the Evaluation Period was greater than $0.016 but less than, or equal to, $0.04; and (4) $0.01 if the TWAQS for the NMS stock during the Evaluation Period was greater than $0.04.^[155] Further, as proposed, NMS stocks' TWAQS would have been measured quarterly based on one month of trading data.^[156] In other words, it was proposed that the assignment of minimum pricing increments for the quoting and trading of NMS stocks priced equal to or greater than $1.00 per share be done on a quarterly basis.

The Commission stated that it preliminarily believed that the proposed Rule 612 amendments would promote: (1) fair and orderly markets and economically efficient executions, particularly for tick-constrained NMS stocks and retail order flow; and (2) fair competition and equal regulation between OTC market makers, exchanges, and ATSs that compete for retail liquidity by requiring that NMS stocks trade with the same minimum pricing increment regardless of venue ( i.e., on or off-exchange).^[157] The Commission also stated that proposed Rule 612 would promote price discovery and price competition, particularly for tick-constrained stocks and retail order flow, by permitting the uniform quoting and trading of NMS stocks across trading venues, in finer increments, based on objective criteria. The Commission preliminarily believed that the proposed Rule 612 amendments would result in the pricing of quotes and orders being more in alignment with the principles of supply and demand.

C. Final Rule—Minimum Pricing Increments for Orders Priced Equal to or Greater Than $1.00 per Share

After considering comments, and analyzing additional data in response to those comments, the Commission is modifying and adopting the proposed amendments to Rule 612. As adopted, Rule 612(b)(2) provides that no national securities exchange, national securities association, ATS, vendor, or broker or dealer shall display, rank, or accept from any person a bid or offer, an order, or an indication of interest in any NMS stock in an increment smaller than required pursuant to either paragraph (i) or (ii) below if that bid or offer, order, or indication of interest is priced equal to or greater than $1.00 per share:

(i) $0.01, if the Time Weighted Average Quoted Spread for the NMS stock during the Evaluation Period was greater than, $0.015; or

(ii) $0.005, if the Time Weighted Average Quoted Spread for the NMS stock during the Evaluation Period was equal to or less than $0.015.

Rule 612(b)(3) provides that no national securities exchange, national securities association, alternative trading system, vendor, or broker or dealer shall display, rank, or accept from any person a bid or offer, an order, or an indication of interest in any NMS stock priced in an increment smaller than $0.0001 if that bid or offer, order, or indication of interest is priced less than $1.00 per share.^[158]

Further, as amended, minimum pricing increments for quotes and orders will be assigned on a semiannual basis using 3-months of trading data to calculate each NMS stock's TWAQS.^[159] Therefore, as adopted, a minimum pricing increment of either $0.01 or $0.005 will be assigned to each NMS stock for quotes and orders that are priced equal to or greater than $1.00 per share twice a year and will be operative for a six-month period.^[160]

The amendment differs from the proposal because rather than adding three proposed smaller minimum pricing increments for quotes and orders ($0.005, $0.002, $0.001) to the current $0.01 increment, only one additional minimum pricing increment ($0.005) for NMS stocks that have a TWAQS of $0.015 or less will be added. In addition, the amendment differs from the proposal as it (1) does not include a minimum pricing increment for trades, (2) modifies the Evaluation Period, and (3) provides for an implementation period.

1. General Comments and Discussion

The Commission received many comments on the proposal to amend Rule 612.^[161] Some commenters supported the need to amend Rule 612.^[162] Many individual commenters generally supported the proposed amendments; ^[163] while some individual ( print page 81633) commenters agreed that Rule 612 should be amended but recommended that the proposal be modified.^[164]

Broadly, many commenters stated that preexisting Rule 612 should be amended in order to permit sub-penny quoting.^[165] One commenter stated that for those stocks that are tick-constrained “[t]he one-cent increment for quoting can make it difficult for liquidity providers to fill orders and often results in higher trading costs.” ^[166] Another commenter stated that tick-constrained stocks experience wider quoted spreads, which results in “significantly increased transaction costs for investors,” and that these securities generally have longer queues and trade with “outsized notional liquidity at the NBBO.” ^[167] Several commenters stated that the “one-size-fits-all” requirement in Rule 612 should be revisited.^[168] One commenter stated that Rule 612 impedes the ability of market participants to price some NMS stocks that would naturally be priced within the penny spread.^[169] The adopted minimum quoting increment of $0.005 will enable the targeted NMS stocks to be more naturally priced based on the principles of supply and demand within the penny spread.

Generally, comments from individuals supported the proposal without any additional suggested changes.^[170] One commenter stated of the proposal, “[t]his means that the pricing of stocks will be more precise and accurate, ensuring that I can get the best possible price for my trades.” ^[171] Another commenter stated that “[a]llowing for sub-penny pricing will enable buyers to obtain lower prices from willing sellers and sellers to obtain higher prices from willing buyers, resulting in a more efficient market.” ^[172] Comments from other market participants, including exchanges,^[173] broker-dealers, and institutional investors ^[174] recommended modifying the proposal to Rule 612 to reduce the number of potential minimum quoting increments. Some commenters stated that further reduction of the minimum pricing increment for quotes and orders may be warranted for certain NMS stocks “in the future” but that a $0.005 increment should be implemented and studied before any further reductions.^[175] For the reasons discussed throughout, in response to commenters, the Commission is adopting amended Rule 612. Compared to the initial proposal, the modified amendments will be easier for market participants to implement and adapt to.

One commenter suggested that the Commission use its exemptive authority to reduce minimum pricing increments and access fees in a manner similar to that requested by MEMX.^[176] MEMX requested an increment of $0.005 for NMS stocks that are “tick-constrained” (defined by MEMX as stocks that trade with an average quoted spread of $0.011 or less).^[177] The commenter recommended this course of action as a means to gather data on sub-penny pricing increments to help determine whether, and to what degree, the proposed modifications were warranted.^[178] The commenter also stated that using an exemption to test a reduction of minimum pricing increments and the access fee caps could include an expiration and a “roll-back” plan should unintended consequences become apparent.^[179] Other commenters recommended that the Commission reduce the minimum pricing increments for a sample of stocks so that data could be gathered and evaluated before changes were adopted on a more widespread basis.^[180] Finally, one commenter recommended that the Commission establish a “transparent structured process to evaluate whether proposed changes to minimum pricing increments and access fees are actually improving the execution experience” and that a “clearly articulated off-ramp/kill-switch to unwind these changes” be in place to return to current minimum pricing increments and the access fee caps.^[181] Another commenter stated that if the Commission adopted a modified amendment to Rule 612 that such modification should be re-proposed for public comment.^[182]

An exemption, other temporary course of action, such as a pilot or sample reduction, or a re-proposal of the ( print page 81634) adopted amendments is not warranted. The Commission and market participants already have provided data and analyses that support amending Rule 612 to address tick constraints.^[183] As discussed throughout this release, the adopted amendments to Rule 612 will allow NMS stocks that are experiencing tick constraints with the $0.01 minimum pricing increment to be priced more competitively ( i.e., reduce quoted spreads) and reduce transaction costs for liquidity demanders. The amendments to minimum pricing increments are designed to appropriately address significant concerns related to Rule 612.^[184] One of the primary goals of the proposal and the adopted amendments is to alleviate tick constraints.

Reducing the minimum quoting increment for quotes and orders to $0.005 for certain NMS stocks will enable such stocks to quote with tighter spreads, which in return reduces the transaction costs of investors.^[185] As discussed below, the Commission has conducted analysis to show that quoted and effective spreads are likely to decline such that costs of executing small and medium trades will likely decline.^[186] Further, Rule 612, as amended, while simplified compared to the proposal, continues to be designed to address constraint concerns with respect to those NMS stocks. Market participants and investors will be able to more easily adapt to the amended tick regime because they will only need to accommodate, and adjust for, one additional minimum pricing increment that is already familiar for a limited, readily discernable, group of NMS stocks.^[187] The $0.005 minimum pricing increment for quotes and orders, one of the three additional ticks proposed by the Commission, was widely supported by commenters.^[188] Price improvement on exchanges and ATSs often occurs through midpoint executions in an increment of $0.005. Accordingly, $0.005 is an appropriate increment to introduce smaller, sub-penny minimum pricing increments in the national market system for quotes and orders priced equal to or greater than $1.00.

Some individual commenters did not support the proposal.^[189] One of those commenters stated that the minimum pricing increment for quotes and orders should be “based solely on that which can be spent in real life; no less than a single penny.” ^[190] Preexisting Rule 612 allowed quotes and orders in NMS stocks priced less than $1.00 per share to be accepted, ranked and displayed in an increment as small as $0.0001. Similarly, certain RLP Programs for national securities exchanges have been granted Commission exemptions to permit quotes and orders in NMS stocks priced equal to, or greater than, $1.00 per share to be accepted, ranked and displayed in an increment as small as $0.001. Sub-penny increments also existed in the market for many years, even prior to the adoption of Rule 612 in 2005.^[191] Sub-penny increments can allow market participants to better convey prices at which they are willing to trade, which can promote better price competition and lead to better price discovery. Further, as discussed above, sub-penny trading occurs frequently, whether at the midpoint or in other sub-penny increments.^[192] Thus, sub-penny increments are not a novel concept. As discussed above, $0.005 is a common trading increment because of the use of midpoint orders under current Rule 612, and the ability to use such orders will not change under amended Rule 612. Nonetheless, the Commission understands that market participants may decide to provide investor notice and education about the availability of the new increment.^[193]

Another commenter stated that the proposed variable minimum pricing increments were “not an effective solution to address concerns related to tick-constrained stocks” and suggested a uniform $0.001 minimum pricing increment for all NMS stocks.^[194] A uniform $0.001 minimum pricing increment for all NMS stocks goes beyond what is necessary to address the issues related to NMS stocks that are currently constrained by the $0.01 tick. A $0.001 minimum pricing increment would be significantly smaller than the current uniform $0.01 minimum pricing increment for quotes and orders for NMS stocks that are priced equal to, or greater than, $1.00 per share. A sub-penny increment for NMS stocks that is too small would increase the incidence of stepping ahead ( i.e., pennying) ^[195] and costs would not justify the benefits.

2. Specific Comments on the Proposed Minimum Pricing Increments

A few commenters did not support the implementation of the smallest proposed sub-penny increments ( i.e., $0.002 and $0.001), and referenced certain concerns, including stepping ahead of displayed orders, quote flickering that occurs when the price of a trading center's best displayed quotations changes multiple times in a single second, and decreased depth.^[196] Each of these were articulated as concerns by the Commission when Rule 612 was first adopted.^[197]

Some commenters stated that having ticks that are too small would result in queue jumping ^[198] and decreased depth.^[199] In the Regulation NMS Adopting Release, the Commission discussed concerns related to stepping ahead of displayed quotations with orders priced in economically insignificant increments ( i.e., to gain ( print page 81635) execution priority) which can deter the display of aggressively-priced limit orders that would narrow the spread.^[200] In light of these comments, amended Rule 612 has been simplified compared to what was proposed. Thus, the Commission is only adding the $0.005 minimum pricing increment for quotes and orders for those NMS stocks that have a TWAQS of $0.015 or less. Because the $0.005 minimum pricing increment is based on the TWAQs of the NMS stock, the $0.005 minimum pricing increment, relative to the spread, will be economically significant for these stocks.^[201]

Some commenters stated that smaller tick sizes would cause flickering quotations.^[202] In the Regulation NMS Adopting Release, the Commission considered issues related to quote flickering.^[203] The Commission stated that quote flickering can result in broker-dealers having difficulties in satisfying their best execution obligations and other regulatory responsibilities.^[204] Because computer algorithms and ultra-fast connections dominate today's trading and quoting activities such concerns are not as acute or prevalent as they were at the time of the adoption of Rule 612.^[205] Today's quotations are calculated and displayed in microseconds, which is significantly faster than in 2005 and while flickering quotations can exist today, computer systems are much better able to process them such that they should not cause compliance difficulties or investor confusion.^[206] Accordingly, because of technological advancements, today's market structure, compared to 2005, can more readily handle rapid changes to a trading center's best bid or offer. Further, the concerns about the potential for flickering quotes should be mitigated to some extent because the amendments do not include the smaller proposed increments ( i.e., $0.001 and $0.002) and are designed to have fewer ticks between the spread which will lessen the potential price changes between the spread.

Other commenters stated that the proposed minimum quoting increments of $0.002 and $0.001 were too small,^[207] would introduce too many intra-spread ticks,^[208] and could harm trading by substantially increasing fragmentation of liquidity.^[209] The Commission also considered the impact of sub-penny quoting on market depth,^[210] i.e., the number of shares available at the NBBO when it originally adopted quoting increments.^[211] Decreased depth could lead to increased transaction costs and fragmentation.^[212] Adopting only one additional minimum quoting increment instead of the proposed four-tier approach, should help address commenters' concerns with respect to fragmented liquidity ^[213] because there will be fewer price levels at which liquidity aggregates, which will result in less fragmentation. The modified amendment of Rule 612 does not include the proposed smaller minimum pricing increments for quotes and orders of $0.001 and $0.002, and thus commenters' concerns related to those increments ( e.g., decreased depth at the NBBO) are not applicable.^[214] As discussed, the Commission has determined to take an incremental approach in amending Rule 612 by only adding a $0.005 minimum pricing increment for those NMS stocks that are constrained by the preexisting, uniform minimum pricing increment based on an objective standard that is designed to have fewer ticks between the spread than the proposal.^[215] As adopted, those NMS stocks that are assigned the $0.005 minimum pricing increment will result in three ticks intra-spread, which falls in the middle of the 2 to 4 ticks intra-spread suggested as potentially optimal by many commenters.^[216] Finally, the Commission addresses its primary concern of relieving the constraint related to the $0.01 increment for certain NMS stocks by only adding the $0.005 minimum pricing increment and not adding minimum pricing increments of $0.002 and $0.001. The $0.005 minimum pricing increment for constrained NMS stocks will allow these stocks to quote more naturally and efficiently, and thereby reduce transaction costs for investors without the concerns that would attach if the minimum pricing increments were smaller.

3. Comments on the Number of Proposed Increments

Some commenters supported reducing the minimum pricing increment for quotes and orders to address those NMS stocks that are tick-constrained, but overall did not support the proposal's four minimum quoting increments.^[217] Many commenters stated that the proposed quoting increments were too numerous.^[218] Instead, a number of commenters recommended that the Commission adopt a modified, simpler amendment to Rule 612 and suggested only adopting one additional minimum quoting increment of $0.005 for tick-constrained NMS stocks.^[219] One commenter said that “reducing the tick size to one-half cent for stocks with narrower spreads will address the current market need.” ^[220] Commenters opposed the proposed four minimum quoting increments based on complexity for market participants to program into their systems these increments,^[221] potential increased costs for ( print page 81636) investors,^[222] and potential investor confusion with respect to minimum pricing increments that could change periodically as proposed.^[223] Another commenter stated that the four-tier proposal would favor “high-frequency traders who have a long history of leveraging complexity to their advantage and to the detriment of ordinary investors.” ^[224] One commenter stated that the proposed variable minimum pricing increments “as small as $0.001 goes well beyond what is necessary, and would also be cost prohibitive and complicated to implement.” ^[225] One commenter questioned the impact of smaller increments on Rule 611 of Regulation NMS and recommended that if the Commission “proceed[ed] with their sub-penny quoting proposal. . . .”, it should consider amending Rule 611 to include all displayed depth of book quotes.^[226]

After considering the comments and analyzing data,^[227] the Commission is amending Rule 612 to only add one new minimum pricing increment of $0.005 for those NMS stocks that have a TWAQS of $0.015 or less, rather than also adopting the additional two $0.002 and $0.001 pricing increments as proposed. The Commission's basis for the new minimum pricing increment of $0.005 is rooted by the current midpoint increment when the NBBO is at its narrowest (or smallest) spread. The midpoint increment of the current $0.01 minimum quoting spread is calculated as (NBB plus NBO) divided by 2, and when the spread is at its narrowest, the midpoint increment is equal to $0.005. For example, if the NBB is 10.01 and the NBO is 10.02, the midpoint would be 10.015 ((10.01 + 10.02)/2) = 10.015). Further, the new minimum quoting increment is at a price level familiar to all market participants and is already programmed into many computer systems. This modified approach addresses the concerns raised by commenters related to the proposed $0.002 and $0.001 minimum pricing increments. The adopted amendments also address commenters' concerns about complexity and potentially advantaging certain types of market participants by reducing the number of new increments and the universe of NMS stocks that may be eligible for a smaller minimum pricing increment. The adopted $0.005 minimum pricing increment for those NMS stocks that have a TWAQS of $0.015 will address the immediate concerns about the constraints that have developed in the national market system as a result of preexisting Rule 612.

4. Comments on Small- and Mid-Sized Stocks

A few commenters stated that the proposal to reduce minimum pricing increments did not consider the impact on small and mid-sized stocks.^[228] One commenter opposed the Regulation NMS Proposal because of concerns that it did not “address the needs and possible unintended consequences for small and mid-sized stocks” and that the Commission should “not take any action until such time as a pilot has been launched and its effects studied and verified by a committee of market participants and academics.” ^[229] Another commenter stated that the proposed tick sizes were “too granular” for small to mid-sized stocks and would result in fewer liquidity providers.^[230]

The assignment of the smaller minimum pricing increment is not based on market capitalization because the economics of being tick-constrained do not depend on market capitalization. Rather, whether a stock is experiencing constraint depends on its spread. In other words, since a stock's spread relative to the tick size does not depend on whether it has a small or mid-sized market capitalization, such a stock could still trade with a quoted spread constrained by $0.01 minimum pricing increment. With respect to implementing a pilot program to assess the needs and potential consequences of the proposal for small and mid-sized stocks, the Commission previously conducted a tick size pilot program for small- and mid-sized stocks to assess the impact of wider minimum quoting and trading increments.^[231] The Commission analyzed data from that pilot program for purposes of the amendments.^[232] Another pilot program is not necessary because the Commission and market participants have demonstrated with data the issues related to tick constraints that have increased since the preexisting rule was adopted.^[233] Further, the modified amendment will not introduce increments that are “too granular” for any NMS stock; only those NMS stocks that have a TWAQS of $0.015 or less will be assigned the new $0.005 increment, or three ticks or fewer within the spread. These NMS stocks are constrained by the preexisting increment and the amendment will alleviate this regulatory constraint to allow competitive forces of supply and demand to better establish bid and ask prices.^[234]

5. Comments on Market Resiliency

A few commenters raised concerns related to market resiliency risks.^[235] The commenter stated that “[b]ecause the Commission's proposal would increase the number of ticks inside the weighted average spread for many stocks, we could expect a significant increase in message traffic that would result from the Commission's proposal.” ^[236] The commenter asked the Commission to consider the potential increased message traffic that could result from the proposed minimum pricing increments and stated that the proposal would result in a significant increase in message traffic.^[237] The commenter recommended the Commission take a measured and phased approach for reducing the minimum pricing increment for quoting to apply the minimum quoting increment initially to a limited number of stocks and additional groups of stocks in subsequent phases, with review of market resiliency during each phase.

The amendments modifying Rule 612 will result in less message traffic, fewer systems changes and lower costs related to updating ticks for NMS stocks compared to the original proposal and ( print page 81637) therefore there should pose less of a concern related to market resiliency. The modified amendment adopts a single sub-penny increment that impacts a smaller universe of NMS stocks compared to the proposal, which included three sub-penny increments that would have impacted more NMS stocks. The need for a phased approach is significantly reduced because fewer NMS stocks will be impacted by the one additional minimum quoting increment, and there will be fewer ticks between the spread.

The commenter stated that the potential costs to industry members from increased message traffic would include purchasing additional computer hardware such as servers and that the costs would also apply to production, backup, test, and development environments.^[238] The commenter stated that the actual costs would be multiples of the estimated costs from the proposal. However, the adopted amendment to Rule 612 will result in less message traffic than the proposal because it has fewer quoting increments. Consequently, the modified amendments that are being adopted will reduce computer hardware and developmental costs for the industry compared to the proposal. In the Proposing Release, the Commission considered the message traffic of the options markets, and the systems for the options markets that handle many times more messages compared to (1) the current NMS stock market or (2) the estimated additional message traffic from the adopted amendments.^[239] One commenter submitted data that supported this conclusion.^[240]

The commenter also raised concerns that increased quote message traffic could significantly increase the costs of the operation of the CAT system.^[241] The commenter recommended that the Commission estimate the potential increase in message traffic, provide those estimates to CAT LLC, obtain estimates from the CAT LLC of the increased CAT costs that would result from this increased message traffic, and factor the estimated costs into the cost benefit analysis of the proposed minimum pricing increments changes. Another commenter also stated that the Commission failed to consider whether the increase in message traffic will increase the CAT operating budget.^[242] The Commission estimates the impact of the adopted amendments on message traffic, and thus on the CAT operating budget in section VII.D.1.c. As discussed further below, the Commission estimates the increase in CAT costs associated with adopting the additional minimum pricing increment to be approximately $4.1 million per year.^[243] The Commission does not believe it is appropriate to delay action on Rule 612 to have CAT LLC engage in its own analysis of the potential costs.

Commenters raised the issue of increased market data volume on competing consolidators, which are not yet in operation.^[244] Likewise, the possible costs to potential competing consolidators will be reduced vis-à-vis the proposal. The Commission recognizes that while the costs may be lower than the proposed rule, the adopted rule could nevertheless create increased message traffic than the preexisting rule. It follows that more message traffic could lead to more possible costs for competing consolidators. However, this new message traffic should still be within the operational capacity of the existing computer systems.^[245]

One commenter stated that even with the largest potential increases in messages, equity messaging traffic would remain well below that of the options market and that “the increase in messaging activity from adopting finer tick increments is now well within the industry's capability.” ^[246] On the other hand, another commenter stated that a larger number of ticks across a large number of stocks would lead to increased message traffic, which would, in turn, increase data and infrastructure costs and market latency.^[247] One commenter added that increased message traffic would lead to increased latency, which would harm market participants by disrupting trading strategies and impairing market functionality and liquidity.^[248] As stated above, the adopted amendment to Rule 612 is significantly less complex than the proposal and will not result in the larger number of ticks across a large number of stocks as the commenter suggested. The proposal's four minimum tick increment has been simplified to one additional new tick at $0.005, and the proposal's reduction of minimum pricing increments for NMS stocks that had a TWAQS of $0.04 or less has been reduced to those NMS stocks that have a TWAQS equal to or less than $0.015, which results in fewer expected NMS stocks being assigned a smaller minimum pricing increment.^[249] These adopted changes may result in significantly less message traffic than under the commenter's assumption on the proposal. While message traffic may increase over today's message traffic, any increase in message traffic will be significantly less than in the options market, and the options market participants have over the years adjusted to increasingly higher message traffic.^[250]

6. Comments on Proposed Criteria for Assigning Minimum Pricing Increments

The Commission proposed to measure the TWAQS when determining the appropriate minimum pricing increment for NMS stocks and proposed four ranges of the TWAQS to determine the corresponding minimum pricing increments. The four proposed TWAQS ranges were: (1) equal to or less than ( print page 81638) $0.008; (2) greater than $0.008 but less than or equal to $0.016; (3) greater than $0.016 but less than or equal to $0.04; and (4) greater than $0.04. Preliminarily, the Commission believed that NMS stocks with a TWAQS of $0.04 or less would have benefited from smaller minimum pricing increments. After considering the comments, the Commission is retaining TWAQS as the measure to determine when an NMS stock will be assigned smaller minimum pricing increment but has modified the threshold to be equal to or less than $0.015.

Many commenters stated that tick-constrained stocks would benefit from smaller minimum pricing increments.^[251] Commenters, however, raised concerns about reducing the minimum pricing increment for NMS stocks that were not experiencing tick constraint with the $0.01 minimum pricing increment.^[252] One commenter stated that “a reduction in tick sizes for those stocks that are merely near-tick-constrained will not result in meaningful price-improvements and will not be worth the increased risk of diminished liquidity to bids and offers being spread too thinly across too many price points.” ^[253] As adopted, the new $0.005 minimum pricing increment will be assigned to those NMS stocks that have a TWAQS of $0.015 or less. These NMS stocks are experiencing constraint with the $0.01 minimum pricing increment and will benefit from being able to be quoted in the smaller increment. As adopted, the Commission has modified the amendment so as not to assign the smaller $0.005 increment to those NMS stocks that are not necessarily experiencing constraint with the $0.01 minimum pricing increment.

Some commenters stated that the TWAQS of $0.011 should be used for identifying NMS stocks that are experiencing tick constraint.^[254] However, one commenter recommended that NMS stocks that “could easily become tick-constrained” should have their minimum pricing increment reduced.^[255] Other commenters offered other recommendations as to the TWAQS threshold for reducing minimum pricing increments, including a TWAQS threshold of $0.02 or less,^[256] a TWAQS threshold of $0.016 or less,^[257] and a TWAQS threshold of 0.015 or less.^[258]

As discussed further below, the Commission is adopting the TWAQS threshold of $0.015 or less in order to identify NMS stocks that will be eligible for the $0.005 minimum pricing increment.^[259] This amendment will generally result in these NMS stocks having a bid-ask spread with one to three ticks, which will improve market quality.^[260] Data analysis supports that liquidity and market quality will improve if NMS stocks with a TWAQS of $0.015 or less are assigned to the $0.005 minimum pricing increment.^[261] Commenters provided analysis and cited studies that suggest that 2 to 4 ticks intra-spread is optimal for trading, which is consistent with the results of the Commission's analysis.^[262]

Some commenters agreed that the TWAQS was the appropriate measure for determining the relevant minimum pricing increment.^[263] Several commenters stated that as many stocks as possible should be identified as eligible for a smaller tick size.^[264] Other commenters suggested that a multi-factor approach be taken in evaluating whether to reduce the minimum pricing increment for certain NMS stocks.^[265] Commenters suggested that such factors include average quoted size,^[266] ratio of ( print page 81639) average quoted size to average traded size,^[267] daily traded volume,^[268] queue length,^[269] quotes on multiple exchanges,^[270] or stock price.^[271] One commenter recommended the inclusion of factors such as large quoted displayed size and a relatively high level of liquidity based on average daily trading volume.^[272]

One commenter suggested that in addition to the TWAQS, “quote stability” should be measured.^[273] According to the commenter, quote stability would be measured by looking at a change in a stock's quote after execution; if the quote widens after an execution, “the quoted liquidity may not be sufficient for the liquidity demanded, suggesting that the quote increment is not actually constraining quoting activity.” ^[274] Another commenter suggested that the Commission consider using “spread leeway,” which the commenter defined as equal to the average quoted spread divided by the minimum tick size.^[275] The commenter stated that spread leeway could “effectively quantify the extent to which bid-ask spreads are constrained by the minimum tick size.” ^[276] Another commenter suggested that in addition to a TWAQS of $0.011, there should be “balance or near equilibrium of multiple bids and offers at the top of the central order book” as this would “imply that market forces of supply and demand would naturally force the bid/ask spread tighter through market competition.” ^[277] One commenter that recommended a multi-factor approach to identify NMS stocks suggested that in addition to average quoted spread, a high quoted size to traded size ratio and a high average daily notional turnover should be examined when identifying NMS stocks that are tick-constrained.^[278] According to the commenter, a high quoted size to traded size ratio is “an objective signal that shows even though there is an abundance of liquidity, the current $0.01 tick constraint disincentivizes investors to cross the spread due to high costs, resulting in a lack of trade executions.” ^[279] Further, the commenter stated that a high average daily notional turnover is “an objective signal because it focuses the tick reduction effort on high turnover securities that would benefit from the ability to be traded in finer increments.” ^[280] Other commenters supported this approach.^[281]

After analyzing data to determine whether the suggested additional factors would be helpful in eliminating NMS stocks that could be harmed by a smaller minimum pricing increment,^[282] the Commission has concluded that TWAQS is the appropriate measure to determine whether an NMS stock should be eligible for a smaller minimum pricing increment. Specifically, TWAQS provides a transparent and objective basis to determine whether the $0.01 minimum pricing increment results in a quoted spread that is too wide for a particular NMS stock. Other possible factors, such as average quoted size, ratio of average quoted size to average trade size, the average daily traded volume, queue length, quotes on multiple exchanges or stock price, would add unwarranted and additional complexity that would be difficult and costly for market participants to monitor because some of these measures require the purchase of proprietary data. Supplementing TWAQS with quoted size, turnover calculations, quote stability, and the other recommend criteria would similarly add additional complexity and responsibilities to the primary listing exchanges assigned to calculating TWAQS.^[283] The additional criteria suggested by commenters are unnecessary because TWAQS is a sufficient, comprehensive and objective way to determine whether NMS stocks are experiencing issues of constraint related to the $0.01 minimum pricing increment for quotes and orders.^[284] Specifically, the Commission concluded that harm is unlikely to result if the other data factors suggested by commenters ( e.g., price, volume, or depth-based criteria) are not included.^[285] Accordingly, the Commission is not adopting factors other than the TWAQS to measure which NMS stocks would be assigned a minimum pricing increment of $0.005.

One commenter suggested that issuers should be able to select the minimum pricing increment for the quotes and orders of their stock.^[286] The Commission disagrees. Rule 612 is an important rule under Regulation NMS and serves to link the markets within the national market system by establishing uniform minimum pricing increments for all NMS stocks. This important linkage function would be undermined by allowing increments to be individually assigned to each NMS stock in a non-uniform manner. Rule 612, as originally adopted and as amended, standardizes minimum pricing increments based on transparent and objective criteria in order to ensure that minimum pricing increments are applied uniformly. Introducing issuer choice would eliminate such standardization and enable individual issuers to choose different minimum pricing increments based on their specific, unique individual preferences which would likely result in random and inconsistent application of increments across NMS stocks that otherwise share several relevant trading characteristics. Minimum pricing increment for quotes and orders of NMS stocks priced greater than, or equal to, $1.00 per share based on unpredictable, opaque, non-standard criteria of individual issuers would result in unnecessary complication, such as varied minimum quoting increments ( print page 81640) and investor confusion, to the national market system. Further, market participants would likely incur additional costs related to, for example, the monitoring and tracking of the minimum pricing increments for issuers.

7. Rule 612(a)—Definitions

As adopted, amended Rule 612(a) contains two definitions for purposes of the rule—“Evaluation Period” and “Time Weighted Average Quoted Spread.” The primary listing exchanges will use these definitions in identifying the required minimum pricing increments for NMS stocks.

a. Evaluation Period

The Commission proposed to define “Evaluation Period” as the last month of a calendar quarter (March in the first quarter, June in the second quarter, September in the third quarter and December in the fourth quarter) of a calendar year during which the primary listing exchange shall measure the TWAQS of an NMS stock that is priced equal to, or greater than, $1.00 to determine the minimum pricing increment to be in effect for the next calendar quarter, as set forth by proposed paragraph (c). In other words, the minimum pricing increment for quotes and orders would have been evaluated every quarter based on one month's worth of data and could have potentially changed once every quarter.

After considering the comments, the Commission is adopting a revised definition of Evaluation Period. Rule 612(a)(1) defines Evaluation Period as (i) the three months from January through March of a calendar year and (ii) the three months from July through September of a calendar year during which the TWAQS of an NMS stock shall be measured by the primary listing exchange to determine the minimum pricing increment for each NMS stock.

The Commission received comments on the proposed definition of the Evaluation Period.^[287] Two commenters generally supported the definition as proposed.^[288]

Several commenters stated that one month was too short a period for measuring and calculating TWAQS.^[289] One commenter stated that an analysis of one month's data “has the potential to disproportionally weigh systemic and idiosyncratic events (including corporate actions) resulting in unrepresentative tick sizes.” ^[290] Another commenter stated that “longer evaluation periods will reduce the risk that short-term aberrations will have an outsized impact on market structure. Using too short of an evaluation period, especially during periods of heightened volatility, could lead to unrepresentative price variations that ultimately result in illogical minimum price increments.” ^[291] A few commenters recommended providing a longer period for conducting data analysis. Specifically, one commenter suggested that the time frame be “coterminous with the time between tick size changes. In other words, if tick sizes are adjusted every quarter, then the evaluation period should be every quarter . . .” ^[292] Another commenter suggested that the Evaluation Period should be at least one quarter.^[293] Another commenter recommended that the Evaluation Period be performed on an annual basis so as to reduce costs and operational risks that may be created by needing to update relevant systems.^[294] Finally, one commenter suggested that the evaluation of NMS stocks be conducted on a semi-annual basis, based on six-months of data, to reduce variability and complexity.^[295]

A few commenters provided suggestions as to the length of time between tick adjustments.^[296] One commenter stated that ticks should be adjusted on a monthly basis rather than a quarterly basis.^[297] The commenter stated “[w]e would expect more frequent smaller updates to reduce how often and how long a stock's tick stays outside the optimal range.” ^[298] Another commenter, however, suggested that the Commission align tick adjustments with other elements in the proposal. Specifically, this commenter recommended that “the Commission reduce the frequency of changes and synchronize the intervals for revising market structure parameters by updating both round lots and tick sizes on a quarterly or semi-annual basis.” ^[299] Another commenter suggested an annual consideration as a means to reduce burdens on market participants and reduce operational risks.^[300]

After considering the comments on the length of the Evaluation Period, the amended rule will require that the TWAQS be measured over a longer period of time than proposed, i.e., using three months' worth of trading data instead of one month, and minimum pricing increments will be assigned on a less frequent basis, i.e., every six months instead of every three months. The Commission conducted analysis to evaluate the length of the data analysis for the TWAQS and the length of time between minimum pricing increment assignments.^[301] This revised definition balances the concerns raised by commenters that a TWAQS measured over too short a time frame could potentially be skewed by high volatility or unique events, such as corporate actions,^[302] but that a TWAQs measured over too long of a time period would increase the probability of assigning a stale minimum pricing increment for quotes and orders that does not reflect the prevailing trading characteristics. Further, an annual evaluation would potentially cause some NMS stocks to remain in a sub-optimal minimum pricing increment for too long, while a monthly evaluation of NMS stocks would raise concerns about investor confusion with frequent re-assignments ( print page 81641) and increase operational risks due to the need for frequent systems updates. The adopted semiannual evaluation addresses the potential burdens and concerns of an Evaluation Period that is either too long or too short.

Finally, two commenters recommended adding an implementation time period between the calculation of the TWAQS and the potential change to an NMS stock's minimum pricing increment.^[303] One commenter stated that the proposed rule “leaves little to no time for the industry to communicate the change and update systems to reflect the new tick sizes.” ^[304] Both commenters suggested that the rule should provide one month between the end of the data collection and the effectiveness of any new minimum pricing increments.^[305] One commenter stated that one month between the calculation of the TWAQS and the implementation of new tick sizes would “give the industry adequate time to process changes and minimize errors.” ^[306] Another commenter stated that the quarterly changes with short transition time would raise operational risk in the market and at individual firms.^[307] This commenter also stated that “[f]requent changes to tick sizes will require considerable investor education.” ^[308] The Commission agrees with commenters' suggestions and is also adopting an implementation period for introducing new minimum pricing increments after an Evaluation Period. As adopted, market participants will have one month to implement any new minimum pricing increments. This will reduce concerns about operational risk and will provide market participants with time to inform investors of any changes in placing orders. One month is an adequate time period for market participants to adapt and make any required systems change to reflect the change, if any, in minimum pricing increment of the quotes and orders of an NMS stock that is priced greater than, or equal to, $1.00 per share. A longer period could partially nullify the objectives of the adopted rule to ameliorate issues related to the constraint of stocks that are quoting at the $0.01 minimum pricing increment.

As discussed below, the Commission has aligned the semiannual evaluation and implementation of minimum pricing increments and the dates for implementing any minimum pricing increments with the timing for changes to NMS stocks round lot assignment.^[309] The Commission agrees with commenters who recommended that these two evaluations and updates be conducted at the same time. This will lessen the burdens on the primary listing exchanges and market participants of implementing new minimum pricing increments and round lots. Further, it will lessen operational risks associated with frequent system updates.

Rule 612(a)(1) also requires that the TWAQS be measured for all NMS stocks by the primary listing exchange. One commenter requested clarification as to what would occur in volatile situations “where a low-priced stock ( e.g., sub $1.00) suddenly jumps to a higher price ( e.g., $8.00).” ^[310] This situation could occur under preexisting Rule 612 as the relevant minimum pricing increment is based on the price of the order or quote. However, because orders in an NMS stock can be submitted with prices at or above $1.00 and below $1.00 depending on its current market price, under the amended rule, each NMS stock must have its TWAQS measured so that a minimum pricing increment will be assigned for those orders that are priced at or above $1.00. Therefore, as amended, all NMS stocks will be assigned a minimum pricing increment based on its TWAQS and investors will be able to understand the relevant minimum pricing increment for their orders when priced at or over $1.00 and when priced under $1.00. Under the rule, as adopted, quotes and orders in NMS stocks that are priced less than $1.00 will continue to have a minimum pricing increment of $0.0001.^[311] The operation of the amended rule is consistent with how the preexisting rule operates in that quotes and orders for a particular NMS stock may be required to be priced in a $0.01 or $0.005 increment when the price of an order is equal to or greater than $1.00 and may also be priced in a $0.0001 increment when the price of an order is less than $1.00.

b. Time Weighted Average Quoted Spread

The Commission proposed to define TWAQS as the average dollar value difference between the NBB and NBO during regular trading hours where each instance of a unique NBB and a unique NBO is weighted by the length of time that the quote prevailed as the NBB or NBO. The Commission did not receive any comments on the definition of TWAQS.^[312] The definition in Rule 612(a)(2) is adopted as proposed.

8. Rule 612(b)(1)—Semiannual Operative Dates

Rule 612, as adopted, contains amended paragraph (b)(1), which defines the operative dates for the minimum pricing increments assigned to each NMS stock and provides a month-long time period to implement potentially new minimum pricing increments at the end of each Evaluation Period. Specifically, minimum pricing increments for quotes and orders will be operative on the first business day of May following the Evaluation Period from January through March and the first business day of November following the Evaluation Period from July through September.^[313] In adopting these operative dates, the Commission seeks to reduce the risk that market participants may not be fully staffed during the time that technology changes are necessary to implement new minimum pricing increments. Further, in addition to providing market participants with adequate time to make necessary systems changes, the implementation period will also provide adequate time for investors to be notified about the minimum pricing increment for the quotes and orders of NMS stocks that are priced equal to or greater than $1.00.^[314]

Two commenters requested clarification as to how stock splits would be handled.^[315] Once assigned under Rule 612(b)(1), minimum pricing increments will remain operative until the next operative date ( i.e., May or November). Therefore, a stock split will not impact an NMS stock's minimum pricing increment until the next cycle. In order to avoid the complexity and confusion that could occur if the minimum pricing increment of NMS stocks were reassigned at unpredictable times, minimum pricing increments will ( print page 81642) not be changed during the time between operative dates.

9. Rule 612(c)—New NMS Stocks

Commenters asked for clarification on how new NMS stocks would be handled under Rule 612.^[316] One commenter questioned how new NMS stocks and IPOs would be assigned minimum pricing increments and stated that allowing exchanges to assign different initial tick sizes could lead to “arbitrage of issuers choosing the exchange that offers the most favorable initial tick size.” ^[317] Another commenter stated that “the simplest and most intuitive alternative would be to use specifications which were previously considered to be the standard unit, such as a $0.01 tick size.” ^[318] The Commission agrees. New NMS stocks will be assigned the same initial minimum pricing increment under Rule 612(c), which requires all securities that become an NMS stock to be assigned to the minimum pricing increment of $0.01.^[319] Thereafter, the TWAQS of the NMS stock will be calculated during the next Evaluation Period to determine which minimum pricing increment will be required under Rule 612(b)(2). Sub-penny increments are limited to quotes and orders priced $1.00 or more for those NMS stocks that have a demonstrated narrow TWAQS during the defined Evaluation Period; new NMS stocks that become eligible for trading during an operative period will not satisfy this requirement. New NMS stocks will have their TWAQS calculated during the next Evaluation Period after they start trading.

10. Rule 600(b)(89)—Regulatory Data

The Commission proposed to amend the definition of regulatory data in Rule 600(b)(78) ^[320] to require the primary listing exchange for each NMS stock to calculate and provide to competing consolidators, self-aggregators, and the exclusive SIPs an indicator of the applicable minimum pricing increment required under Rule 612. The Commission is adopting the minimum pricing increment indicator, as proposed, under the definition of regulatory data in Rule 600(b)(89)(i)(F). A minimum pricing increment indicator will be useful to market participants, including investors, by providing important information about the relevant minimum pricing increment for each NMS stock. This indicator will help market participants, including investors, with submitting orders in the relevant increment. Because the minimum pricing increment can change on a semiannual basis depending on the TWAQS on an NMS stock, this indicator will enable market participants to trade in a more informed manner. The indicator will be included in SIP data that is disseminated by the exclusive SIPs and consolidated market data ^[321] disseminated by competing consolidators, which will help to ensure the wide availability of information about the applicable minimum pricing increment for each NMS stock.

One commenter supported the minimum pricing increment indicator stating that it would make the new increments easier to implement.^[322] This commenter suggested that the exclusive SIPs publish the indicator every morning, in a machine-readable format, and free of charge.^[323]

The exclusive SIPs currently provide certain information that comprises regulatory data as part of SIP data.^[324] Under the rule, the exclusive SIPs will be required to collect and disseminate a new regulatory data element, the minimum pricing increment indicator, and collect and disseminate this regulatory data element as part of SIP data.^[325] To the extent that the exclusive SIPs charge fees for this new regulatory data element, such fees will be required to be filed under rule 608 of Regulation NMS and must be fair and reasonable and not unreasonably discriminatory.^[326] The Commission has not required a specific format for SIP data, including regulatory data; such format will be developed by the Operating Committees' for the Equity Data Plans consistent with regulatory requirements.^[327]

D. Minimum Pricing Increment for Trades

The Commission proposed to amend Rule 612 to introduce minimum pricing increments for trades of NMS stocks where the minimum pricing increment for trading NMS stocks priced at or above $1.00 would vary and correlate to one of the four proposed minimum pricing increments for quoting ( i.e., $0.001, $0.002, $0.005 and $0.01), subject to proposed exceptions for midpoint trades and benchmark trades.^[328] The proposed minimum pricing increments for trades would have harmonized trading increments (1) with the proposed variable minimum pricing increments for quotes and orders (in this release, “Quote and Trade Harmonization”), and (2) across all trading venues (in this release, “Venue Harmonization”). Specifically, Quote and Trade Harmonization would have required all trading to occur in the same increments as those required of quotes and orders subject to certain exceptions for midpoint and benchmark trades. Venue Harmonization would have required all trading on exchanges, ATSs and OTC to occur in the same pricing increments.

In the Proposing Release,^[329] the Commission stated that it was concerned about the competitive dynamic between exchanges, ATSs, and OTC markets and that a potential contributing factor was the ability of OTC market makers to execute orders in price increments that are smaller than the price increments that exchanges and ATSs can practically provide.^[330] The Commission stated that applying the minimum pricing increment to trades across all venues would promote equal regulation and fair competition among market participants such as exchanges, OTC market makers and ATSs, particularly as it relates to retail order flow; ^[331] and that it was “reasonable to assume that . . . [applying] a minimum pricing increment to trades . . ., could result in greater competition between exchanges and ATSs with other OTC market makers, including wholesalers . . .” ^[332] However, the Commission also stated that it could not anticipate how OTC market makers would adjust to increased competitive pressure and whether a market-wide trading increment would yield a ( print page 81643) “positive, negative or neutral” net effect on retail price improvement.^[333]

The Commission received several comments on the proposal to establish minimum pricing increments for trades, including comments related to Quote and Trade Harmonization,^[334] Venue Harmonization,^[335] statutory authority,^[336] rationale,^[337] impact on price improvement,^[338] exceptions to minimum pricing increment for trades,^[339] and exchange RLP programs.^[340] After considering comments and in light of changes from the proposal that the Commission is making to amended Rule 612, the Commission has decided, consistent with one of the Reasonable Alternatives set forth in the Proposing Release,^[341] not to adopt a minimum pricing increment for trades. As described above, the Commission is amending Rule 612 to adopt one smaller minimum pricing increment for quotes and orders that primarily focuses on those NMS stocks that are experiencing constraint with the $0.01 minimum pricing increment. A secondary impact of the changes to the minimum quoting increment should be that it helps to partially address the concerns related to fair competition between exchanges, ATSs, and OTC markets that proposing a market-wide trading increment was designed to address.

Amended Rule 612 will reduce the minimum pricing increment for quotes and orders to $0.005 for certain NMS stocks that are priced equal to, or greater than, $1.00 per share which in turn also effectively reduces the increment that such stocks are able to trade in. Under amended Rule 612, OTC markets will continue to be able to trade more readily in comparatively smaller increments ( e.g., $0.001 or $0.0001) than exchanges and ATSs, however, exchanges and ATSs will now be able to trade more regularly at smaller increments ( i.e., $0.005 or $0.0025), compared to preexisting Rule 612, for those NMS stocks that are assigned the $0.005 minimum pricing increment. By effectively reducing the trading increment for such NMS stocks, which represent a significant amount of the daily trading volume (approximately 58%) and dollar volume (approximately 43%),^[342] the potential trade pricing discrepancy between exchanges, ATSs and OTC markets, while not harmonized, will be reduced. Market participants will be able to better compete based on the pricing of quotes and orders. Thus, because reducing the minimum quoting increment for a significant amount of volume of NMS stocks, whether measured by trading or dollars, also effectively reduces the trading increments for those stocks, the concerns related to the ability of OTC market makers to trade in comparatively finer increments raised by the Commission in the Proposing Release will be partially addressed so that the Commission has determined not to adopt the minimum pricing increment for trading.

However, because the amendment to Rule 612 only partially addresses the competitive dynamic between OTC market makers and exchanges and ATSs described in the Proposing Release, and furthermore allows OTC market makers to continue to execute trades in comparatively finer increments, the Commission staff will continue to monitor sub-penny trading to evaluate whether further action is appropriate for the protection of investors and to assure “fair competition among brokers and dealers, among exchange markets, and between exchange markets and markets other than exchange markets” in the national market system.

The Commission's simplified, incremental approach to amending Rule 612 focuses on addressing issues that have developed regarding quoting constraints for certain NMS stocks because of the $0.01 minimum pricing increment. Further, the amendment to Rule 612 will facilitate the transition of market participants and investors to the new tick size regime and the wider use of sub-penny quoting. The amendment, as adopted, also reduces the anticipated implementation costs compared to the proposed amendments to Rule 612. Finally, under amended Rule 612: (1) RLPs ^[343] that operate pursuant to Commission exemptions that either permit certain quoting and trading in increments of $0.001,^[344] or aggregate order flow at the midpoint,^[345] will be able to continue to operate without interruption and without changes to exchange rules or the grant of further exemptive relief by the Commission; (2) sub-penny price improvement will continue to be permitted consistent with the requirements of the rule; (3) and investors will continue to be able to manage their order flow and implement trading strategies through the use of midpoint orders and benchmark trades.

IV. Final Rule 610 of Regulation NMS—Fees for Access to Quotations

The Commission is adopting amendments to Rule 610(c)(1)(ii) as proposed with technical modifications to remove the reference to the minimum pricing increment. The Commission is not adopting proposed Rule 610(c)(1)(i) because it is unnecessary.^[346] Further, the Commission is adopting amendments to Rule 610(c)(2) as proposed with modifications to align the access fee caps for protected quotations in NMS stocks priced below $1.00 and those priced $1.00 and above.^[347] Finally, the Commission is removing outdated references to the “The Nasdaq Stock Market, Inc.” in Rule 610(c), as proposed, because the Nasdaq Stock Market is now a national ( print page 81644) securities exchange and the language is redundant.^[348]

Specifically, under Rule 610(c), as amended, a trading center ^[349] will not be permitted to impose, or permit to be imposed, any fee or fees for the execution of an order against a protected quotation of the trading center or against any other quotation of the trading center that is the best bid or best offer of a national securities exchange or the best bid or best offer of a national securities association in an NMS stock that exceed or accumulate to more than $0.001 per share if the price of the protected quotation or other quotation is $1.00 or more, and the fee or fees will not be permitted to exceed or accumulate to more than 0.1% of the quotation price per share if the price of the protected quotation or other quotation is less than $1.00.

The Commission is also adopting Rule 610(d) as proposed to require that all exchange fees and rebates be determinable at the time of execution. For the reasons discussed below, these amendments to Rule 610 are appropriate for the modern national market system.

A. Background

Rule 610(c) was adopted in furtherance of the Congressional directives in section 11A of the Exchange Act and was designed to promote fair and non-discriminatory access to quotations displayed in the national market system.^[350] Rule 610(c) seeks to ensure the fairness and accuracy of displayed quotations by establishing an outer limit on the cost of accessing such quotations ^[351] and was designed to help to ensure that orders placed in the national market system reflect the best prices available. The access fee caps are necessary to achieve the purposes of the Exchange Act, including section 11A(c)(1)(B) of the Exchange Act, which authorizes the Commission to adopt rules assuring the fairness and usefulness of quotation information. The Commission has stated that for quotations to be fair and useful, “there must be some limit on the extent to which the true price for those who access quotations can vary from the displayed price.” ^[352]

Rule 610 was adopted at the same time as Rule 611, the Order Protection Rule, which established intermarket protection against trade-throughs ^[353] for all NMS stocks. Rule 610(c) was designed to preclude trading centers that posted protected quotations from raising their fees in an attempt to take improper advantage of the trade-through protections adopted under Rule 611.^[354] The Commission designed the access fee caps to preserve the benefits of the strengthened price protection under Rule 611 and more efficient linkages among trading centers that were developed under Regulation NMS to access protected quotations that could be disrupted if substantial fees were charged.^[355] At the time of adoption, the Commission recognized the importance of protecting the best displayed and accessible prices in promoting deep and stable markets that minimize investor costs. In this regard, the Commission stated that Rule 611 would help to minimize investor transaction costs, which is “the hallmark of efficient markets” and a “primary objective of the [national market system].” ^[356] Rule 610 is an important component in supporting these goals.

Market participants, including investors, need fair and efficient access to the best priced quotations in the national market system. Therefore, Rule 610(c) remains an important part of the national market system to achieve the purposes of the Exchange Act, preserve the benefits of price protection, and help ensure that displayed quotations reflect something close to actual costs incurred for the transaction.^[357]

B. Issues Raised in the Existing Market Structure and the Need for the Amendments

The national market system of 2024 is significantly different than the national market system that existed when Regulation NMS was adopted in 2005.^[358] Since Regulation NMS was adopted, new trading practices, order types, and routing strategies have developed that did not exist when Rule 610 was adopted.^[359] In addition, exchanges have developed complex fee structures that charge the outer limits permitted for accessing protected quotations and use those fees to fund rebates, which have the effect of creating a discrepancy between displayed prices and net prices.^[360] Finally, the national market system has seen a proliferation of new exchanges, often within the same exchange group, that implement varied pricing models to attract specific market participants to their markets.^[361] The Commission has monitored these developments and engaged extensively with market participants about the impact of the modern fee structures on fair and efficient access to protected quotations as well as the usefulness and accuracy of such quotations.^[362]

Market participants have considered and suggested reductions in the access fee caps for many years to address market distortions (as further discussed ( print page 81645) below) ^[363] and better reflect evolutions in the market since Regulation NMS was adopted.^[364] One commenter stated that “[d]igital innovations and efficiencies since 2005 have undoubtedly reduced the costs of collecting, storing, processing, and transmitting information” and that “despite reduced costs, increased efficiency, and all the new data and computing power available, the access fee cap has remained fixed at an inflated level that reflects the technology capabilities of 2005.” ^[365]

1. Amendments to Rule 612

As discussed above, the Commission is adopting a smaller minimum pricing increment of $0.005 for certain NMS stocks. Because the Commission is adopting the smaller $0.005 increment, it is also amending the preexisting access fee caps in Rule 610(c) to prevent introducing new pricing distortions in the market.^[366] For protected quotations priced $1.00 or more, the Commission is adopting a 10 mil access fee cap and has decided that this level is appropriate based on several additional considerations, as discussed in the following sections.

2. Exchange Fee Models

The exchange fee structures in the national market system that have developed under Rule 610 are complex and consist of fees charged and rebates paid to market participants. As stated above, exchanges using a “maker-taker” pricing model, pay a rebate to a “maker” or provider of liquidity, which is funded by the fees charged to a “taker” of liquidity.^[367] The exchange earns as revenue the difference between the fee paid by the taker and the rebate paid to the provider or maker.^[368] For maker-taker exchanges, the amount of the taker fee is limited by the access fee caps imposed by Rule 610(c). The Rule 610(c) access fee caps apply to the fees assessed on an incoming order that executes against a resting protected quote, but do not apply to the rebates. However, the Rule 610(c) access fee caps indirectly limit the average amount of the rebates that an exchange offers to about $0.0030 per share in order to maintain net positive transaction revenues. Thus, an exchange may charge higher access fees to fund higher ( print page 81646) liquidity rebates.^[369] Some exchanges state that rebates are necessary in order for them to attract trading volume.^[370]

In recent years, a variety of concerns have been stated about the prevailing maker-taker fee model, and particularly the rebates paid by the exchanges. Those include that the fee/rebate models: (1) undermine market transparency since displayed prices do not account for exchange transaction fees or rebates and therefore do not reflect the net economic costs of a trade; ^[371] (2) serve as a way to effectively quote in sub-penny increments on a net basis when the effect of a maker-taker exchange's sub-penny rebate is taken into account even though the minimum quoting increment is expressed in full pennies; ^[372] (3) introduce unnecessary market complexity through the proliferation of new exchange order types (and new exchanges) designed solely to take advantage of pricing models; ^[373] (4) drive orders to non-exchange trading centers that do not display quotes as market participants seek to avoid the higher fees that exchanges charge to subsidize the rebates they offer to attract liquidity; ^[374] and (5) benefit sophisticated market participants like market makers and proprietary traders at the expense of other market participants.^[375] Further, the prevailing access fee structure creates potential conflicts of interest for broker-dealers, who must provide the best execution to their customers' orders while facing potentially conflicting economic incentives to avoid fees or earn rebates from the trading centers to which they direct those orders for execution.^[376]

a. Transparency

The chart below illustrates with a hypothetical example the Commission's concern that exchange fee/rebate models can undermine price transparency. While some investors may invest heavily to fully map out the fee schedules, these schedules are complex and thus doing so would be costly, consequently it is likely that not all investors fully map out fee schedules.^[377]

The Commission examined data for NMS stocks to demonstrate the price variations that can occur under the exchange fee and rebate schedules. The chart above shows a common scenario for a hypothetical stock, with four exchanges all displaying the same best bid of $20.56. However, due to differing fee schedules, each of the four represents a different net bid to market participants. Furthermore, due to volume-based price fee tiers, some exchanges' net bids differ for different market participants. The fee schedules used to create this example are taken ( print page 81647) from various exchange fee schedules as of June 2024. Exchange A charges the maximum allowed access fee of 30 mils, and so market participants that trade with the Exchange A bid receive a net price of $20.557 per share ($20.56 minus a $0.003 fee). Exchange B has an inverted “taker-maker” fee schedule and so pays a rebate to participants who remove liquidity, with differing rebates based on volume tiers. In this example, a market participant that trades with the bid on Exchange B receives a net price of $20.5616 if in the best tier ($20.56 plus a $0.0016 rebate). Exchange C charges an access fee of 29.5 mils, meaning that a market participant that trades with the Exchange C bid would receive a net price of $20.55705 per share ($20.56 minus the $0.00295 fee). Lastly, Exchange D charges an access fee of 29 mils to those in the best tier, so such a participant trading with Exchange D receives a net price of $20.5571. Despite all four exchanges showing the same bid of $20.56, the bids net of fees vary from a low of $20.557 to a high of $20.5616, a substantial difference of $0.0046 per share (nearly half the current minimum pricing increment).

b. Liquidity and the NBBO

The price of liquidity for investors in terms of buying and then later selling a security is the spread between the best bid and the best offer, which is reflected by the NBBO. For those market participants that provide liquidity, such as market makers, this spread similarly represents the market price for providing those liquidity services at any given point in time. More recently, trading center models that pay rebates to liquidity providers (which rebates are funded on a transaction basis by charging an access fee to the taker of liquidity) pay an additional return to the liquidity provider separate from what would be captured though the spread, which may then lead those liquidity providers to lower the spread (that is, the implicit price for their liquidity provision services) more than they would otherwise.^[378] These prices are reflected in the NBBO, which is disseminated in the national market system.

Others have stated that the maker-taker model has positive effects by enabling exchanges to compete with non-exchange trading centers and by narrowing quoted spreads through subsidizing posted prices,^[379] but these potential benefits should be balanced against the market distortions associated with the fee and rebate models mentioned above.^[380] Further, rebates paid to liquidity providers under maker-taker fee schedules may narrow displayed spreads in some securities by subsidizing liquidity providers ( i.e., by allowing a maker to post a more aggressive price than it may have in absence of a rebate), and these prices may not reflect the underlying economics for the NMS stock.^[381] In turn, that displayed liquidity may establish the NBBO,^[382] which is often used as the benchmark for marketable order flow, including retail order flow, that is executed off-exchange by either matching or improving upon those distortive prices.^[383] Accordingly, rebates may distort quotation prices that are displayed in the national market system.^[384]

High rebates also incentivize excessive intermediation,^[385] especially in very liquid securities, to the extent rebates induce or exacerbate an oversupply of liquidity at the best bid or offer.^[386] As discussed below, some stocks will trade with a quoted spread one tick wide, whether the tick size is $0.01 or $0.005. In those cases, quoted spread is unable to adjust lower due to the tick size, so the rebate paid to liquidity providers, which is funded by an access fee paid by liquidity takers, acts as a wealth transfer from liquidity takers to liquidity providers. This wealth transfer in turn unnecessarily incentivizes the provision of liquidity ( i.e., encourages providing liquidity in order to earn the rebate), thereby creating an environment with too much liquidity supplied relative to liquidity demanded and leading to rebates for faster liquidity suppliers and a higher cost to liquidity takers.^[387] In other words, excessive quoting in tick-constrained securities to earn rebates undermines price transparency because displayed prices and the associated size at those prices do not reflect the underlying economics of supply and demand, but rather reflect the impact of fees or rebates.^[388]

c. Potential Conflicts of Interest

As more fully discussed below and in the Economic Analysis, access fees and rebates create potential broker-dealer conflicts of interest in order routing, particularly to the extent the fees and rebates are not passed through to the customer.^[389] For example, this structure can create an incentive for a broker-dealer that fully absorbs transaction costs or rebates potentially to route customer orders to an exchange in order to avoid fees that are paid by the broker-dealer or to receive the highest rebate paid.^[390] Lowering the access fees caps will help alleviate potential conflicts of interest.^[391]

d. Market Complexity

Exchange fee and rebate models under preexisting Rule 610(c) have also led to the development of a variety of complex order types, including those that allow market participants to avoid paying access fees or to ensure that rebates are collected.^[392] Further, exchange fee and rebate models are another way exchanges differentiate themselves from each other and from other trading centers to attract order flow. The ( print page 81648) variability of fee and rebate models (often within the same exchange group) introduces additional market complexity and fragmentation because it encourages the creation of new exchanges that offer different pricing structures to attract different types of market participants or trading strategies. Moreover, the drive to establish novel and competitive fee schedules results in frequent fee schedule changes (typically on a monthly basis), which adds uncertainty and complexity to the marketplace because market participants must continually update their routing tables to reflect these price changes.^[393] A higher cap allows for a wider range of possible access fees ( i.e., $0-$0.0030) and more variability in exchange fees, which introduces additional complexity to the market.^[394]

C. Proposal To Amend 610(c)

To accommodate the amendments to Rule 612 and to address the issues that have developed with the fee schedules for protected quotes under Rule 610(c), the Commission proposed to amend Rule 610(c) by reducing the level of the access fee caps for all protected quotations in NMS stocks. For protected quotations in all NMS stocks priced $1.00 or more, the proposal introduced two lower access fee caps to accommodate the proposed minimum pricing increments under proposed Rule 612 for quotations priced equal to or greater than $1.00 per share.^[395] Specifically, for all protected quotations in NMS stocks priced $1.00 or more per share and assigned a proposed minimum pricing increment greater than $0.001, the Commission proposed a 10 mil access fee cap; and for all protected quotations in NMS stocks priced $1.00 or more per share and assigned the proposed $0.001 minimum pricing increment, the Commission proposed a 5 mil access fee cap. For all protected quotations in NMS stocks priced less than $1.00 per share, the Commission proposed to reduce the access fee cap to 0.05% of the quotation price.^[396]

The Commission received many comments on the proposed amendments to Rule 610(c). The comments are discussed more fully below.

D. Final Rule 610(c)

The amended access fee caps reflect several considerations by the Commission as well as input from commenters. For protected quotations priced $1.00 or more, the Commission is adopting a 10 mil access fee cap. This level is appropriate based on several considerations. First, because the Commission is adopting the $0.005 increment for certain NMS stocks under amended Rule 612, it is also reducing the level of the preexisting access fee caps in Rule 610(c) in order to prevent the price distortions that would occur if access fees were able to be set at more than half of the minimum pricing increment ( i.e., a protected quotation with an access fee that exceeds half the minimum pricing increment economically would be represented at the next less aggressive pricing increment).^[397] A 10 mil access fee cap is sufficiently below the smallest minimum pricing increment ( i.e., $0.005) so as to not create new pricing distortions.^[398]

Second, in adopting the 10 mil access fee cap, the Commission also considered the impact of the reduction on the agency market business model. A 10 mil access fee cap is at a level that will allow the exchanges to maintain their current net capture for executions of NMS stocks priced $1.00 or greater.^[399]

The 10 mil access fee cap also should help to reduce distortions and complexities under the fee structures that have developed under the preexisting access fee caps levels.^[400] As discussed above, under the preexisting access fee caps, many exchanges charge access fees at or near the highest permitted levels under preexisting Rule 610(c) as a means to fund rebates.^[401] Access fees charged at the highest level permitted under the preexisting rule and the rebates they fund harm price transparency because the displayed price does not accurately reflect the underlying economics of a decision to post a protected quotation at a particular price ( i.e., the market participant's assessment of the price of liquidity for the security is distorted by the subsidy provided by the rebate), or to access a protected quotation at a particular price ( i.e., the displayed price does not reflect the additional cost of the access fee).^[402] The negative impact on price transparency is exacerbated when various exchanges have different fees and rebates and make frequent updates to those rates, making the comparison of net prices unnecessarily complex and difficult.^[403]

Further, reducing the level of the access fee caps to the adopted levels will reduce complexity in the market because it will (1) reduce the incentives to use certain complex order types that are designed to avoid high fees/garner large rebates, (2) potentially reduce the number of fee changes in the market and accompanying frequent changes to complex order routing strategies, and (3) may discourage further market fragmentation.^[404] Reducing the amount of rebates by reducing the access fee caps to 10 mils also will reduce the magnitude of potential conflicts of interest in the market.

Finally, in determining to adopt the 10 mil access fee cap, the Commission has considered input from commenters, including market participants. Commenters stated that the reduced 10 mil access fee cap will better reflect current market rates and the increased efficiencies from electronic trading and other market structure changes, all of which have reduced trading costs since Rule 610 was originally adopted.^[405]

In addition, the Commission is retaining the uniform access fee cap structure whereby the access fee caps are assigned based solely upon the price of the protected quotation. In other words, the Commission is adopting the 10 mil access fee cap for all protected quotes priced $1.00 or more. Maintaining the preexisting uniform structure of the access fee caps helps ensure that the requirements under Rule 610(c) do not increase the fee structure complexity or introduce unintended consequences (such as oscillations) that would create additional costs for market participants.^[406]

( print page 81649)

Further, the Commission is also reducing the level of the access fee cap for NMS stocks priced under $1.00 to 0.1% of the quotation price in order to maintain the preexisting structure as well as to harmonize that cap with the adopted 10 mils cap for NMS stocks priced at $1.00 or more. The harmonization will prevent different fees on quotes above and below $1.00 that could negatively impact price formation.^[407] These considerations are consistent with the analysis and rationale the Commission used when it adopted the access fee caps in 2005.^[408]

Lowering the access fee caps to these levels and maintaining the preexisting uniform structure will promote the statutory objectives of fair and efficient access to protected quotes and will help to ensure the fairness and usefulness of protected quotations ^[409] because the amended access fee caps will lead to transaction pricing that is better aligned with today's market dynamics.^[410] Recalibrating the level of the caps will yield savings for investors and help to address distortions in the markets while maintaining the ability of the trading centers that display protected quotations to continue to provide execution services, innovate and compete because they will be able to retain the same fees (net of any rebates) for executions that are priced $1.00 or more,^[411] notwithstanding the reduction of the fee cap to 10 mils.^[412] The Commission has balanced the competing interests of reducing the cap to address the amendments to Rule 612 and market distortions associated with the fee/rebate models that have developed under the preexisting fee caps, with the importance of preserving the viability of multiple agency market business models. The amended 10 mils access fee cap will lead to improved market quality because it will reduce distortions in the market and preserve the integrity of displayed prices, which will support sufficient price discovery, and will reduce costs for investors.^[413]

1. Comments on Proposed Rule 610(c)

Many comments from a broad cross section of market participants supported the need to reduce the access fee caps in preexisting Rule 610(c).^[414] Many individual commenters stated that the reduced access fee caps would help to reduce trading costs.^[415] One individual commenter stated “[a]s a retail trader, I have experienced the high costs of access fees, which can be a significant portion of my trading costs. The proposed reduction in access fee caps will help to lower my costs, which will allow me to take advantage of more trading opportunities and ultimately benefit from a more efficient market.” ^[416] Other commenters also stated that a reduction in the access fee caps would reduce trading costs for investors.^[417]

Some commenters stated that the proposal would enhance transparency ^[418] and would reduce complexity.^[419] As discussed above, the reduced access fee caps will enhance transparency of protected quotes and reduce complexity in the market by reducing the need for complex order types that have developed to accommodate the fee/rebate models.

Among the commenters that supported a reduction in the access fee caps,^[420] several stated that the amendments to Rule 612 to reduce tick sizes would necessitate a reduction in the access fee caps for those securities assigned a smaller tick,^[421] while many others stated that the preexisting access fee cap should be lowered to 10 mils per share for protected quotations in all NMS stocks priced at $1.00 or more regardless of whether there was a reduction in tick size.^[422] As discussed ( print page 81650) below, the Commission has decided to maintain the uniform access fee cap structure and continue to apply the caps to all protected quotes based on price. The Commission has decided that reducing the caps for all protected quotes, not just those that may be assigned the smaller $0.005 minimum pricing increment, is appropriate to address the distortions that exist in the national market system. Further, maintaining the uniform structure will help to ensure that the rule does not increase complexity in the national market system.

Several commenters stated that modifications to reflect the significant evolution in market conditions since the caps were established almost two decades ago are long overdue.^[423] One commenter stated that the current access fee caps are “antiquated.” ^[424] Another commenter stated that the access fee caps are “outdated” and “counter to the interests of long term investors.” ^[425] The Commission is reducing the access fee caps to accommodate the amendments to Rule 612. Further, retaining a uniform access fee cap structure will benefit the market by introducing less complexity and help to address market distortions that have arisen under the current fee caps. The current market structure has experienced significant changes in trading dynamics and operates under a fee structure that is different from when Rule 610(c) was adopted and problematic for the reasons articulated throughout this release. As discussed above and in the Economic Analysis, the amendment modernizes Rule 610(c) to reflect current trading dynamics and mitigate distortions associated with the preexisting caps while preserving its original objectives.

Some individual commenters recommended that the proposal be modified to go further to address distortions in the market related to the current fee and rebate models.^[426] A few commenters stated that the access fee caps should be eliminated entirely.^[427] One commenter stated that “competitive forces should inform access fees.” ^[428] Another commenter stated that the “solution is to let brokers take fees into consideration in their order routing . . . and route to the market with the best all-in costs,” which would obviate the need for the Commission to “get into the price control business.” ^[429]

While some commenters suggested that access fees be further reduced or eliminated altogether, the Commission is not eliminating fees for access to protected quotes. Rule 610(c) establishes limits on the amount of fees that can be charged for access and when the Commission adopted Rule 610(c), the Commission recognized that agency market trading centers have historically relied, at least in part, on charging fees for access. Eliminating or prohibiting access fees entirely would unduly harm the business model of agency market trading centers by not allowing them to collect fees for the execution services they provide.^[430] As discussed below, the national securities exchanges are the only trading centers at this time that display protected quotations and they should be able to continue to charge for the execution services they provide.^[431]

However, while recognizing the importance of the agency market business model to the national market system, in adopting the access fee caps the Commission also was mindful that “[a]ccess fees tend to be highest when markets use them to fund substantial rebates to liquidity providers, rather than merely to compensate for execution services” and artificially high access fees ( i.e., those that are used primarily to fund rebates) can undermine price discovery because “the published quotations of such markets would not reliably indicate the true price that is actually available to investors or that would be realized by liquidity providers.” ^[432]

Further, notwithstanding commenters' statements to the contrary, the access fee caps continue to be necessary in order to support the objectives of fair and efficient access to protected quotations, which “is necessary to support the integrity of the price protection requirement established by the adopted the Order Protection Rule.” ^[433] In adopting Rule 611, the Commission stated that strong intermarket price protection offers greater assurance that investors who submit market orders will receive the best readily available prices for their trades.^[434] Rule 611 was designed to “strengthen the protection of displayed and automatically accessible quotations in NMS stocks.” ^[435] The Commission recognized that such objectives could be undermined if “outlier” markets could charge high fees to market participants who would be required to pay such high fees to access a protected quotation because of Rule 611. The comments that suggest eliminating the access fee caps and allowing a consideration by brokers of all-in costs or relying solely on competition, do not address the concern that led to the adoption of the access fee caps, namely that outlier markets would take advantage of Rule 611 by imposing high fees for access.^[436] The access fee caps remain necessary for the reasons they were adopted.

Some commenters stated that the Commission should act to prohibit rebates.^[437] While in many cases rebates ( print page 81651) are funded by the access fees that are collected, Rule 610(c) does not apply to rebates.^[438] The Commission is adopting amendments to Rule 610(c) to reduce the access fee caps for the reasons discussed herein, but is not expanding its application to apply to rebates or to eliminate them.^[439] The adopted amendments to Rule 610(c) maintain fidelity to the original objectives of the rule, but recalibrate the fee cap amounts to reflect current market structure. As a practical matter, however, the reduced access fee caps in amended Rule 610(c) will likely reduce the rebates paid ^[440] and, as a result, the amended access fee caps will reduce the distortions created by the existing fee structures that use access fees as a means to fund the payment of rebates in the market.^[441]

One commenter stated that the Commission should require the exchanges to “revert to traditional fees imposed on buyers or sellers or both without regard to the maker-taker status.” ^[442] Rule 610(c) does not require any particular fee structure, like a flat fee structure suggested by a commenter.^[443] Instead, the access fee caps set an upper limit on the amount of fees that can be charged for access to protected quotations. Within this construct, trading centers can continue to develop fee structures that are consistent with Rule 610 as well as any other regulatory requirements that may be relevant to a particular trading center.^[444]

a. Access Fees and Minimum Pricing Increments

Several commenters stated the Commission should lower the access fee caps regardless of whether any changes are made to the minimum pricing increments and stated that such changes are warranted even if the Commission elects not to proceed with the proposed tick changes.^[445] One commenter stated “the current harms associated with the $0.003 access fee cap and maker-taker pricing models exist at the current tick sizes. Accordingly, the Commission should consider reducing the access fee cap even if it ultimately decides not to proceed with the proposed tick size changes.” ^[446] Another commenter, however, “strongly disagreeing” with commenters' suggestion that regulatory reform of exchange fees could proceed independently, stated that “[c]alls for regulatory mandated reductions in exchange access fee caps fail to recognize that exchange access fee caps were adopted and justified to facilitate effective intermarket linkages.” ^[447]

Other commenters stated that the levels of the access fee caps and the minimum pricing increments are connected.^[448] One commenter stated “[a] reduction in the minimum tick size without reducing access fees could permit fees to become a higher percentage of the minimum pricing increment, which would almost certainly undermine price transparency.” ^[449] Commenters stated that the access fee caps should be reduced to help ensure that access fees do not become an outsized portion of displayed quotes in light of proposed changes to the minimum pricing increments.^[450] One commenter stated that it was “recommend[ing] keeping fees strictly less than 1/2 of the tick size” in order to prevent “price instability and quote flickering” and stated “[i]f fees reach 1/2 the tick size, it means that the same effective price point can be achieved multiple ways on an all-in basis with different nominal prices ( e.g., an offer at 10.000 with a $0.0005 rebate, or a bid of 10.001 with a $0.0005 rebate).” ^[451] Another commenter stated “if the access fee cap were to exceed half of the tick size, the paper trail can be not only confusing but can literally misrank trades.” ^[452]

As recognized by several commenters, access fees and tick sizes are related in certain instances.^[453] Specifically, an access fee that is too high when compared to the tick size can create pricing distortions.^[454] Therefore, because the Commission is reducing the minimum pricing increments for certain NMS stocks as set forth in Rule 612, the Commission is also reducing the Rule 610(c) access fee caps to prevent introducing pricing distortions that can occur if an access fee is greater than one-half of the tick. Maintaining an access fee cap that is less than one-half of the tick size will preserve coherence ^[455] and result in lower transaction costs for investors.^[456]

Further, lowering the access fee cap to 10 mils for those NMS stocks assigned a lower tick will address the distortionary effect on price transparency that would result absent adjustment to the access fee cap.^[457] To illustrate, if the access fee cap remained at $0.003, which would fund rebates at a similar level, and the tick size was adjusted to $0.005, the effect on the price of a stock could be as follows. An executed trade could be displayed at a price of $10.005 followed by another executed trade at a price of $10.010. Many investors would interpret this as a sign that a stock was increasing in value. However, with an access fee of $0.003, the net price of the first order if it represents a market order to buy would be $10.008 (the buyer pays $10.005 and pays $0.003 in fees), whereas the net price of the second order if it is a market order to sell would be $10.007 (the seller receives $10.010 and pays $0.003 in fees). In this example, the price has fallen, not risen. Lowering the access fee cap to 10 mils will mitigate this problem.^[458]

The Commission also agrees that the access fee caps should be lowered for all NMS stocks regardless of whether a stock is assigned the lower pricing increment of $0.005 or retains a $0.01 minimum pricing increment to address market distortions attributable to the fee structures that have developed under the access fee caps and align the fee caps with current market dynamics. The Commission is reducing the access fee caps for all NMS stocks and maintaining the structure that was originally adopted, i.e., assigning an access fee cap based on the price of the protected quotation. And, as discussed above, maintaining a uniform access fee cap structure will help to ensure that the requirements under Rule 610(c) do not increase the fee structure complexity.

Some commenters were generally supportive of an access fee cap ( print page 81652) reduction because of the changes to the minimum pricing increment, but offered no or few specifics as to the amount or percentage of the reduction.^[459] Other commenters urged the Commission to reduce the access fee caps in a manner that is proportionate to any reduction in the tick ( e.g., for a $0.005 tick, the access fee cap should be 15 mils).^[460]

Some commenters stated that the access fee caps should be 30% of the minimum pricing increment in order to remain consistent with the percentage level under the preexisting rule.^[461] These commenters recommended maintaining the current 30% ratio between tick size and access fee cap because they were primarily concerned that the proposal would result in access fees that were 50% of the tick (an increase in fee to tick ratio) for the smallest proposed tick size ( i.e., the proposed $0.001 tick would have been assigned a 5 mils access fee cap). Other commenters expressed concern regarding application of a two-tiered access fee cap structure to a four-tiered reduction in minimum pricing increments.^[462] These commenters' concerns regarding both the increase in fee to tick ratio and asymmetrical structure of the proposal, however, have been obviated because the Commission is neither adopting the $0.001 tick, nor the corresponding 5 mils cap.

Other commenters stated that the access fee caps should be reduced only for NMS stocks that are assigned a smaller minimum pricing increment and only in proportion to the amount of a stated corresponding decrease in the tick size, i.e., NMS stocks that were assigned a smaller $0.005 tick size would be subject to a 15 mils access fee cap.^[463] Similarly, several exchange groups commented on the proposal and offered alternative approaches to modify Rule 610(c) to reflect the change in minimum pricing increments.^[464] One exchange group commenter supported the need to adjust the access fee caps to accommodate the proposed new tick sizes, but stated its view that the proposal went “far beyond what is needed” to achieve that purpose “to the detriment of market quality and the NBBO” because reducing the caps would implicitly reduce rebates, which would impede exchanges' ability to attract liquidity and encourage tighter spreads.^[465] As an alternative to the proposal, the commenter recommended the Commission adopt a fee cap of 15 mils for NMS stocks assigned to a $0.005 minimum pricing increment and retain the preexisting 30 mils access fee cap for NMS stocks that retain the $0.01 minimum pricing increment.^[466] According to this commenter, this alternative “would cut access fees by half for securities in the $0.005 tick bucket, while preserving room for exchanges to continue [to] offer rebates that are needed to bolster market quality and the NBBO.” ^[467] This commenter further stated that although the Commission intends the proposal to help the exchanges compete for retail order flow by reducing the cost for broker-dealers to access liquidity on the exchange, compressing the access fee caps would make it more expensive to provide liquidity to the exchanges and thus any benefit would be undermined.^[468]

Several commenters stated that there should be a uniform fee cap to “avoid any additional market complexity.” ^[469] Some commenters stated that the proposed tiered access fee caps and the proposed variable minimum pricing increments would add unnecessary complexity.^[470] One commenter stated that it “strongly favor[ed] a single, consistent standard, rather than multiple caps tied to different ticks, which would create unnecessary complexity.” ^[471] Another commenter stated that applying a uniform cap across all NMS stocks would help to address market distortions such as routing conflicts arising from the maker-taker fee model.^[472] Another commenter stated that continuing to apply a uniform cap will more effectively achieve the objectives of Rule 610 because absent such adjustment, “the ability of exchanges to abuse their status as protected markets will be no less for stocks that are assigned a higher tick increment.” ^[473] One commenter stated that setting different fee caps based on tick size would “allow exchanges to impose a `penalty fee' for participants looking to access quotes in stocks that are less actively traded” and further stated that “there is no justification in logic or regulatory purpose to make that distinction.” ^[474] However, other commenters disfavored a “one-size-fits-all” model.^[475] One commenter suggested the Commission consider a “dynamic tick size approach with the access fee cap proportionally tied to both smaller and larger tick sizes” ^[476] and recommended the access fee caps be a certain percentage of the minimum pricing increment, but did not propose a particular percentage that should be adopted.^[477]

Other commenters disagreed that the level of the access fee cap should be tied to the pricing increment assigned. One exchange commenter stated that the “original justification for access fee caps had nothing to do with tick sizes” and instead “centered around ensuring that transaction fees did not unduly distort the price of a quote that the Commission was protecting by rule [611].” ^[478] This commenter also stated that “[m]odifications to access fee caps should only be discussed in the context under which they were conceived” which was “to ensure that market centers displaying the best price did not impose access fees that compromised the value of the better price.” ^[479]

The Commission agrees that one of the purposes of the access fee cap was, and remains, to help to ensure that transaction fees do not unduly distort the price of protected quotations. However, the Commission does not agree that goal is best achieved by adopting certain commenters' recommendation to reduce the access fee caps proportionally ( i.e., to 15 mils) and only for those NMS stocks that are assigned a smaller minimum pricing increment. A proportional reduction for a limited universe of NMS stocks would allow higher access fees and rebates along with related market distortions to continue for the NMS stocks that retain the $0.01 increment and would perpetuate unwarranted complexity ( e.g., complex orders types, market ( print page 81653) fragmentation, complex fee and rebate schedules and frequent changes to complex order routing strategies to adjust to fee changes) to the current market structure.^[480] Applying a uniform 10 mil access fee cap to access protected quotations in all NMS stocks priced $1.00 or greater will avoid injecting complexity ^[481] in the market and will continue to guard against “outlier” markets undermining the objectives of Rule 611.

While the Commission agrees with commenters that tick size and access fees are relational in so far as the access fee cannot be more than half of the minimum pricing increment (for the reasons discussed above), maintaining the current proportionality of the access fee to tick could perpetuate distortions in the market. As stated by one commenter, “when the cap was set in 2005, neither the Commission nor commenters ever suggested that the cap should be exactly equal to a fixed proportion of the tick size.” ^[482]

Further, lowering the access fee cap for only those NMS stocks that are assigned a lower minimum pricing increment ( i.e., those NMS stocks that are constrained by the $0.01 minimum pricing increment) and maintaining the preexisting (30 mils) fee cap for all other NMS stocks priced $1.00 or greater could increase the probability that some stocks will oscillate from one tick size to another rather than settling on an appropriate tick. This oscillation creates additional cost for market participants, introduces complexity in the markets and creates operational risk.^[483] In addition, continuing to apply a 30 mil access fee cap to those NMS stocks that continue to be assigned a $0.01 pricing increment would ignore the efficiencies in trading ^[484] that have been realized in the intervening 19 years since the caps were adopted and would not address the distortive effects of access fee structures that assess access fees at or near the current cap in order to maximize the amount of the rebate that can be offered.^[485]

In addition, as discussed below, and supported by some commenters, fees and rebates which are currently benchmarked against the 30 mil cap have a negative impact on price transparency and routing practices.^[486] According to one commenter, “there is evidence that exchanges that pay the highest rebates often provide worse execution quality.” ^[487] Another commenter provided data it said demonstrates that “poor execution quality is directly linked to high access fees.” ^[488]

Lowering the cap to 10 mils for all NMS stocks, both those that are assigned a $0.005 tick and those that retain the $0.01 tick, will benefit market participants, including investors, by lessening the incentives to route to a market in order to receive a rebate.

The Commission proposed a two-level access fee cap structure for access to protected quotes in NMS stocks priced at $1.00 or more to accommodate the proposed variable minimum pricing increment structure and specifically to prevent the access fee caps from creating pricing distortions with the smallest proposed minimum pricing increment ( i.e., 5 mils access fee cap for NMS stocks that would have been assigned a $0.001 pricing increment and 10 mils cap for NMS stocks that would have been assigned a pricing increment greater than $0.001).^[489] Specifically, the proposed 5 mil access fee cap was necessary to accommodate the proposed lowest $0.001 minimum pricing increment because imposing the proposed 10 mil access fee cap on the $0.001 minimum pricing increment would have created distortions in quoting and negatively impact pricing transparency.^[490]

Several commenters raised concerns about the proposed 5 mil access fee cap and its ratio as compared to the minimum pricing increment.^[491] One commenter stated that “[a]t 50% of the minimum pricing increment, a round trip buy and sell trade could result in access fees equal to the spread” and expressing concern that “at 50% of the spread, rebates of greater than half of the minimum pricing increment could lead to market distortion.” ^[492] Because the amendment to Rule 612 does not include the $0.001 minimum pricing increment, the Commission is not adopting the 5 mils access fee cap. Specifically, with the elimination of the proposed $0.001 minimum pricing increment,^[493] the proposed 5 mil access fee cap is unnecessary.^[494] Accordingly, the Commission is adopting the proposed 10 mils access fee cap as proposed.^[495] The Commission is removing the proposed tiered approach to the access fee caps and instead maintaining the preexisting single, uniform access fee cap structure for protected quotes priced $1.00 or more.^[496] The amendment will introduce fewer variables, less complexity and lower cost and operational risk as compared to the proposed two-level access fee cap structure.^[497] More specifically, as is the case today, there will be one access fee cap for NMS stocks priced at $1.00 or more and a separate access fee cap that applies to NMS stocks priced below $1.00.

b. Impact on Liquidity and the NBBO

Some commenters stated that lowering the access fee cap to 10 mils would not impinge on the exchanges' ability to offer incentives and attract liquidity and instead stated that reducing the caps would likely draw liquidity back to the exchanges.^[498] According to one commenter, “ATSs and other off-exchange venues generally charge rates much lower than the access ( print page 81654) fees imposed by most exchanges. Because their cost of access is so much higher than on other venues, exchanges become the venue of `last resort.' ” <sup>[499]</sup> This commenter further stated that “modernizing the access fee cap and bringing exchange access fees in line with off-exchange trading venues will reduce the need for exchange avoidance and naturally result in a better experience for liquidity providers, one that will not need to be `offset' by rebate payments.” ^[500] Another commenter stated that “[b]rokers' avoidance of these fees is a significant contributor for brokers often choosing to internalize or first route to ATSs or OTC market makers, rather than to exchanges with their customers' orders.” ^[501] Another commenter stated that “the 30-mil cap is among the factors driving the shift away from displayed trading.” ^[502] One commenter stated “reduced displayed trading is a problem because it impedes the fair and transparent distribution of pricing and transaction information that Congress directed the Commission to protect . . . [and] the 30-mil cap is among the factors driving the shift away from displayed trading.” ^[503] And another commenter stated that lower access fees will impose lower costs on investors, “removing a disincentive for trading on exchanges.” ^[504]

Other commenters stated that lowering the access fee caps would address other concerns regarding market distortions associated with the payment of high rebates.^[505] One commenter stated that “[r]ebates distort supply and demand and harm the price discovery process.” ^[506] One commenter stated that reducing the cap to 10 mils would “provide ample room for exchanges to create incentives, charge premium or discounted prices, and earn a profit, all while lowering the distortive effects they have on the equity market.” ^[507] In addition, some commenters stated that reducing the cap would alleviate the potentially distortive effects of the maker-taker pricing model.^[508] According to one commenter, “the current fee levels foster and enable significant market distortions in today's marketplace” and “the fees charged by exchanges often serve as powerful disincentives for market participants to access that liquidity.” ^[509] Another commenter “recognize[d] that access fees and the rebates that they fund serve an important function in incentivizing liquidity provision for thinly-traded securities and compensating market makers for adverse selection,” but also stated that “[p]rudent regulation must appropriately . . . balance the beneficial effect of access fees on liquidity against the potential for market distortions” associated with maintaining the 30 mil cap.^[510] According to this commenter, “lowering fees would mitigate the detrimental effect of access fees on order routing, price transparency, and market quality in many securities.” ^[511] Further, another commenter stated that when the Commission adopted the preexisting caps, “its focus was on limiting the distortive impact of disproportionate access fees, not on facilitating the ability of markets to pass them through as rebates.” According to this commenter, the only way in which the Commission viewed access fees and rebates as related was that “a fee limit was needed to avoid distortive pricing of the type that occurs when access fees are primarily passed through to other participants in the form of rebates.” ^[512] This commenter further stated that the “bulk of executions against displayed quotes pay the maximum fee, with the overwhelming share of that revenue being passed through as rebates.” ^[513]

Finally, one commenter stated “the pricing distortions the Commission was concerned about when it adopted Regulation NMS have become acute today due to changed market conditions” resulting in brokers being incentivized to “route orders away from best-displayed exchange quotes in order to avoid the high fees—precisely the result the Commission sought to avoid when it first adopted the cap.” ^[514] This commenter also stated that “the introduction of `inverted' venues that pay rebates to access rather than provide displayed orders, and the use of highly-skewed rebate tiers, has created even more price distortion and misaligned incentives.” ^[515]

Other commenters opposed any changes to the existing access fee caps because they stated that reducing the caps would limit the exchanges' ability to offer rebates to incentivize liquidity providers, as access fees typically fund such rebates and this could negatively impact liquidity on exchange markets.^[516] Some commenters stated that the reduction in the access fee caps, which would reduce rebates, would result in wider spreads, and less quoted size which would increase trading costs.^[517] One commenter stated that the “cost of widening spreads that would result from removing fees and rebates would cost retail investors . . . as much as $687 million per year.” ^[518] Some commenters stated that the reduction of rebates would impact spreads, which (according to those commenters) suggests that rebates have an impact on displayed pricing.^[519] Other commenters stated that the reduction in rebates would have a negative impact on market liquidity.^[520] One commenter stated that the current access fee cap levels “help[ ] improve liquidity and provide narrower quotes than otherwise would be available in the marketplace.” ^[521] Similarly, another commenter stated support for further “examining changes to the access fee cap,” but cautioned “that wholesale reductions, particularly when combined with other changes . . . will disincentivize liquidity provision, reduce market maker support, widen bid-ask spreads, and increase volatility in thinly-traded securities.” ^[522] Some commenters stated that certain securities may “require rebates larger than 10 mils to incentivize tight quotes.” ^[523] However, another commenter stated that claims of “hidden costs to investors, in the form of worse NBBO prices, wider spreads, higher costs for retail investors, in the ( print page 81655) form of worse NBBO prices, wider spreads, higher costs for retail investors and less liquidity for thinly-traded securities” did not have a factual basis and did not account for the “tangible cost reductions that would arise from lower access fees.” ^[524]

Certain exchanges also opposed any changes to the access fee caps, stating that reducing the access fee caps would impede their ability to offer competitive rebates and meaningful price differentiation, hindering their ability to attract liquidity and compete with off-exchange trading venues for order flow.^[525] One commenter stated that “[c]ompressing the caps further . . . [would] introduce additional concerns with implications for competition and market quality.” ^[526] In addition, this commenter stated that rebates, which are funded by access fees, are “innovative and critically important tools that enhance market depth, promote tighter bid-ask spreads, and encourage order flow to be routed to lit exchanges” and any diminution in the access fee caps would “in fact disrupt current business practices and competitive dynamics.” ^[527] This commenter also stated that reducing the access fee caps could “have significant revenue consequences,” ^[528] but provided no specifics. Another commenter stated that reducing rebates “discourages on-exchange market making,” which could deteriorate the NBBO as it “would be drawn from a smaller and less representative pool of displayed liquidity.” ^[529] According to this commenter, although the proposal might make it cheaper for broker-dealers to access liquidity, costs for liquidity providers and market makers would increase, and spreads would widen, which in turn would result in higher “all-in” costs for investors.^[530] Further, one commenter stated that the proposal “risks weakening the NBBO by restricting exchanges' ability to offer meaningful rebates to encourage more liquidity and tighter spreads that underpin the NBBO” ^[531] and stated that the NBBO is “comprised exclusively of trading interest displayed on public exchanges. . . [and] limit[ing] exchanges' ability to gather liquidity . . . would weaken the public reference price.” ^[532] According to this commenter, “rebates are essential to market quality as they encourage market participants to act as market makers and provide two-sided quotes that make the equity markets function soundly.” ^[533] This commenter further stated that rebates provide “integral value to the operation of well-functioning, fair, and orderly equity markets” because they serve to cushion market makers against the risks of adverse selection and price volatility, thereby incenting them to continue to make markets, even in thinly-traded or volatile securities, and to do so with tighter spreads than they would otherwise.” ^[534] According to the same commenter, a reduction in rebates would lead to greater market complexities because there would be more “speedbump or `quote protection' markets” and a “[g]reater focus on segmentation.” ^[535] This commenter also stated that the proposal would “potentially undermine the competitive positions of the exchanges and the market makers that quote on them by seeking to limit their ability to charge fees and collect rebates for their respective services.” ^[536] Another commenter stated that “it is entirely inappropriate to experiment with exchange pricing models for fear of broker failings” and “exchange fees are extremely transparent . . . and receive a significant amount of SEC review.” ^[537]

Finally, one commenter “question[ed] the Commission's authority to reduce the fee cap beyond what is needed to accommodate the new, smaller tick sizes, thereby with the implicit aim of limiting the ability of exchanges to provide meaningful rebates to market participants.” ^[538] According to this commenter, the Commission “lacks the authority to enact radical changes to exchange access fees without explicit congressional mandate” and “the Commission's charge to establish a national market system evidences no express intent for the Commission to impose price controls upon exchanges as a means of promoting competition.” ^[539]

Other commenters stated that the Commission had clear statutory authority to adopt Rule 610 and to make subsequent adjustments to the access fee caps.^[540] One commenter stated that “a plethora of items in the 34 Act, the SEC's prior 50 years of regulation of the National Market System, and related constitutional precedent regarding the private non-delegation doctrine specific to self-regulatory organizations (SROs)—not only give the SEC sufficient delegation of authority to adopt the pending NMS proposal, they compel the SEC to exercise its authority that oversees a dynamically changing national market system.” ^[541]

As discussed above,^[542] section 11A(c)(1)(B) of the Exchange Act authorizes the Commission to adopt rules assuring the fairness and usefulness of quotation information.^[543] Further, Congress explicitly granted the Commission “broad authority to oversee the implementation, operation, and regulation of the national market system” and the “clear responsibility to assure that the system develops and operates in accordance with Congressionally determined goals and objectives” which requires balancing different, and often competing, interests and components of the complex national market system.^[544] The access fee caps in preexisting Rule 610(c) were adopted through rulemaking pursuant to the Exchange Act, including section 11A, and recalibration of the levels of the access fee caps falls squarely within the Commission's statutory authority. The commenter that questioned the Commission's authority to reduce the level of the access caps to 10 mils acknowledged the Commission's authority to reduce the access fee caps “to accommodate the new, smaller tick sizes” ^[545] and in an earlier comment letter stated it “supports adjusting the access fee cap to accommodate new tick sizes.” ^[546] The Commission's authority set forth in the Exchange Act is not circumscribed in the manner suggested ( print page 81656) by this commenter. Congress granted the Commission broad authority to oversee the national market system and ensure that it is meeting the investment needs of the public. The reductions in the access fee caps adopted herein are designed to improve market quality for market participants accessing protected quotations in all NMS Stocks, not just those that will be assigned a new minimum pricing increment. As discussed throughout, the adjusted level of the caps also will allow trading centers to retain their net capture for transactions of protected quotations priced $1.00 or more and therefore trading centers who wish to use rebates to attract liquidity may continue to do so. Accordingly, the Commission has considered and balanced policy objectives in this complex area and reached an appropriate policy decision.^[547]

Although some commenters stated that rebates are essential to attract liquidity on exchanges,^[548] the access fee caps were not established to support trading centers' ability to offer rebates or to ensure a particular level of rebate payment; they were developed as a means to help ensure fair, efficient, and ready access to protected quotes, to preserve the integrity of displayed prices and to ensure that the objectives of Rule 611 would not be undermined by trading centers who might seek to charge exorbitant fees to those now required to access their protected quotations.^[549] The Commission disagrees that rebates are essential to attract liquidity on national securities exchanges or the only means of attracting liquidity.^[550] The Commission stated in 2005 that markets have “significant incentives to be near the top in order-routing priority” ^[551] and displaying the best protected quotation will attract liquidity to a market. The adopted amendments will continue to allow for trading centers to develop different fee models while also preserving the objectives of Rule 610(c). Further, market participants that post non-marketable orders are able to price their orders to accommodate the risk of adverse selection and rebates are not necessary for compensating this risk.

Reducing the access fee caps will help to alleviate the distortive effects of the preexisting level of access fees and the rebates they fund. The access fee caps were designed to protect limit orders and to assure that orders could be routed to those markets that were displaying the best-priced quotations.^[552] As the Commission stated when it adopted the access fee caps, “[a]ccess fees tend to be highest when markets use them to fund substantial rebates to liquidity providers, rather than merely to compensate for execution services. If outlier markets are allowed to charge high fees and pass most of them through as rebates, the published quotations of such markets would not reliably indicate the true price that is actually available to investors or that would be realized by liquidity providers.” ^[553] The Commission also discussed the potential distortionary effect of high fees and rebates on displayed quotes and sought to assure that displayed prices were within a limited range of net prices.^[554]

In the current national market system, fees for access to protected quotes are typically charged at the highest amount allowed under Rule 610(c) and the vast majority of the fees collected are paid out as rebates.^[555] This practice results in displayed quotations prices that are not reflective of underlying economics of liquidity supply and demand, but rather displayed quotations prices that have been calculated to account for the receipt of a rebate.^[556] The Commission is concerned that this structure impairs the fairness and accuracy of displayed quotations.

The access fee caps set an outer limit on the cost of accessing protected quotations to “assure[ ] order routers that displayed prices [are] within a limited range, true prices.” ^[557] In setting the maximum level for the access fees trading centers could charge market participants to access a protected quotation in 2005, the Commission specifically recognized that “some markets might choose to charge lower fees, thereby increasing their ranking in the preferences of order routers. . . while [o]thers might charge the full $0.003 and rebate a substantial proportion to liquidity providers.” ^[558] The Commission left it to the markets and competition to determine what strategies would be successful in attracting order flow, subject to the maximum access fee cap.^[559] Without an access fee cap, the Commission was concerned that certain markets would charge high fees and pass most of them through as rebates, which would undermine price discovery and price transparency.^[560] The Commission's concerns when it adopted Regulation NMS, that access fees might gravitate to the highest level permitted by Rule 610 and the impact on price transparency, have been realized to the detriment of investors.^[561]

As discussed below, the reduction in the access fees will improve market quality.^[562] For those NMS stocks that ( print page 81657) are not experiencing a constraint on the quoted spread due to the minimum pricing increment, transaction costs will remain largely unchanged under the amendments as spreads will adjust on average to offset the reduction in access fees and rebates.^[563] For those NMS stocks that do experience constraint on the quoted spread due to the preexisting minimum pricing increment, transaction costs for liquidity seekers will go down and the oversupply of liquidity will be reduced, which will allow for shorter queues and higher fill rates.^[564] For these NMS stocks, the access fee functions as a tax on liquidity demand.^[565] Reducing the access fee in these constrained stocks will result in savings for investors.^[566]

Further, while some commenters stated that exchange volume would decline and that OTC trading would increase if the access fee caps were reduced, as discussed below,^[567] analysis indicates that liquidity providers would not be deterred from quoting on exchange because they will be able to widen their quote to reflect the reduced rebate, thereby receiving the same economic profit as they received with the rebate. Liquidity demanders would not be worse off because the reduction in access fee would offset, or, in the case of stocks with an economic spread of less than a tick, more than offset, the increase in spread.^[568]

Some commenters stated that the reduced access fee caps would help to address potential conflicts of interest in routing decisions that may harm execution quality of customer orders.^[569] One commenter stated that “lowering the access fee cap would lead to a reduction in broker conflicts of interests.” ^[570] Another commenter stated that the proposal “will help to reduce the extent of the conflict of interest in agency routing decisions.” ^[571] Another commenter stated “[w]e have long supported the Commission addressing the conflict faced by brokers related to incentives created by access fees and rebates in the maker/taker model” and that “a simple reduction of access fees across all venues to $0.001 would go a long way in mitigating order routing conflicts.^[572]

Another commenter, however, stated that the Commission did not provide any new data to support its position that access fees and rebates are “actually harmful to the market” and further stated that “the Commission's supposition that rebates present harmful conflicts-of-interest to brokers is not supported with evidence, and it ignores the countervailing benefits associated with rebates, which are essential tools for gathering the displayed quotes that form the NBBO.” ^[573] Another commenter stated that “half of the rebates on Cboe accrue to non-agency market-making activity—thus, there is no real or perceived conflicts of interest” and for agency order flow, some of that flow is “`directed' meaning clients give specific instructions for the order to be routed to a particular venue for execution” and thus there similarly is no conflict.^[574] This commenter further stated, “brokers have a duty of best execution regardless of the pricing model used by the exchange.” ^[575]

The Commission disagrees with those commenters that questioned the existence of potential conflicts of interest. The Commission has received comments from market participants that have stated that potential conflicts of interest are a concern because of the fee/rebate models. Some commenters stated that fees and rebates that are currently benchmarked against the 30 mil cap have a negative impact on routing practices ^[576] and one commenter offered evidence that “exchanges that pay the highest rebates often provide worse execution quality.” ^[577] Another commenter provided data it said demonstrates that “poor execution quality is directly linked to high access fees.” ^[578] Moreover, the Commission has heard similar concerns about potential conflicts of interest created by the fee and rebate schedules and their impact on market quality for many years.^[579] The 10 mils access fee cap is appropriate because it will mitigate the potential conflicts of interest associated with the current fee and rebate models, while still allowing exchanges to use rebates to attract liquidity.

c. Agency Market Business Model

Several commenters stated that the Commission should not consider whether the proposed lowered access fee caps would unduly impair current agency market business models ^[580] as a factor in its analysis.^[581] According to one commenter, “setting access fee caps, or designing any aspect of market structure, specifically to preserve or protect existing exchange fee models is an inappropriate policy rationale.” ^[582] Similarly, another commenter stated that it “is not the Commission's role to ensure that trading centers `maintain their current net capture rate.' ” ^[583] Further, one commenter stated that while, in its opinion, it would be appropriate for the Commission to “assess the impact of the proposed access fee cap on market participants' varying business models,” it must “then account for the impact of the proposed access fee cap on all market participants and attempt to create the most ( print page 81658) competitive and effective environment on an overall basis, rather than doing so exclusively for exchanges.” ^[584]

In considering whether to adjust the level of the access fee caps, and if so, by what amount, the Commission has considered the impact of such modifications on market participants to help ensure that all investors will continue to have fair and non-discriminatory access to protected quotations and the Commission has not prioritized exchange revenues over other considerations. When the Commission adopted the access fee caps in Regulation NMS, it considered the impact of the caps on the agency market business model, as it has done in this release as well.^[585] Agency market trading centers have historically charged transaction fees for their agency services in bringing together buyers and sellers to execute transactions. The Commission is not prohibiting agency market trading centers from continuing to assess fees for providing execution services to access protected quotations. As discussed above, it was appropriate and consistent with its responsibilities under the Exchange Act for the Commission to consider the impact of the original access fee caps on the ongoing viability of different trading centers. Because of the important role agency market trading centers continue to play in the national market system, it is similarly consistent with the Exchange Act for the Commission to undertake a similar analysis today in adjusting the level of the caps.

The Proposing Release estimated the effect on exchange net capture because exchanges are the only trading centers that impose fees for access to protected quotations at this time and, therefore, are subject to the access fee caps.^[586] Further, the Commission's analysis in the Proposing Release appropriately considered the impact of proposed changes to Rule 610(c) on entities employing an agency market business model because Rule 610(c) applies to those entities and the Commission was cognizant of not compressing the access fee caps so far as to effectively eliminate such business models.^[587] As discussed above, the Commission stated that if markets are allowed to charge high access fees and pass most of them through as rebates, the published quotations of such markets will not reliably indicate the true price that is available and investors may be overcharged for taking liquidity.^[588] As discussed below, the Commission estimated the current net capture of the exchanges at approximately 2 to 6 mils and anticipates that will remain the same under amended Rule 610(c).^[589]

As was the case with the original access fee caps, the amended fee caps will preserve the agency business model because trading centers will continue to be able to assess fees for transaction services at a level that will result in the same net capture as they earn today if they so choose. In this manner, the amended fee cap for protected stocks priced $1.00 and above has been “drafted to have minimal impact on competition and individual business models while furthering the objectives of the Exchange Act by preserving the fairness and usefulness of quotations.” ^[590] In determining the new levels of the access fee caps, the Commission has considered many factors, including allowing for a diversity of business models.^[591] The amendments to Rule 610(c) will continue to allow the exchanges to provide execution services using their current business models, innovate and compete for order flow, while also reducing the costs to investors who must access protected quotations because access fees are being reduced to amounts above the exchanges' net capture rates.

Exchanges are the only trading centers that currently display protected quotes in the national market system, and they play an important role in bringing together multiple buyers and sellers of securities.^[592] Exchanges are also responsible for certain important processes in the national market system, including openings, re-openings, and closings on the primary listing market; trading halts; initial public offerings and exclusively listed securities. The exchanges, along with FINRA, are also responsible for producing data for the consolidated market data feeds as well as the operation of the exclusive SIPs. In addition, the Commission has recognized these functions as “critical” to the operation of the securities markets for purposes of imposing requirements under Regulation SCI, which established a regulatory framework for oversight of the core technology of the U.S. securities markets.^[593] Therefore, it continues to be appropriate to consider the impact on this business model, i.e., the agency market business model, when considering amendments to the access fee caps.

d. Comments on the Proposed 10 Mils Access Fee Cap

There was divergence of opinion around the appropriate level of the access fee cap for protected quotations priced at $1.00 or greater.^[594] A number of commenters viewed 10 mils as the appropriate level.^[595] Commenters stated that a reduction in the level of the access fee cap to 10 mils is warranted because, among other reasons, it will result in lower costs to investors to access protected quotes; ^[596] align access fees with other elements of investor transaction costs (all of which have decreased); ^[597] recalibrate the access fee cap levels to reflect increased efficiencies, technological ( print page 81659) advancements and structural changes in the markets since Rule 610(c) was adopted; ^[598] continue to allow for competitive business models and innovation; ^[599] and align on-exchange pricing more closely with off-exchange venues such as ATSs.^[600] One commenter stated a 10 mil cap “would have the added benefit of aligning exchange fees with prevailing ATS fees and creating a more equitable competitive landscape across trading venues” ^[601] and another stated that “[t]he economic difference to a broker between routing to an . . . ATS [ ] versus an exchange would be much smaller than it is today, if a $.0005-$.0010 access fee cap replaces the current $.0030 mil cap.” ^[602] According to one commenter, lowering the cap to 10 mils should “(1) lead to an increase in investor interaction with displayed quotes, (2) provide an economic reason for all participants to submit displayed quotes to an exchange, and (3) end the corrosive and discriminatory nature of the current exchange fee and rebate system.” ^[603] Another commenter stated that reducing the level of the cap from 30 mils to 10 mils would “remove barriers to entry for new market participants,” especially smaller trading firms and retail investors.^[604] Further, commenters stated that the proposed reduction of the access fee caps would be beneficial to retail investors, as well as institutional investors and long-term investors.^[605]

Several commenters stated their support for reducing the amount of the access fee caps, but cautioned that further analysis is necessary to determine the appropriate amount and parameters of any reduction to avoid unintended consequences.^[606] The Commission disagrees for a number of reasons. Further delay is not warranted because the access fee caps have been extensively considered for many years.^[607] In addition, the Commission has weighed several factors in determining to reduce the access fee caps to 10 mils and, as discussed further below in the Economic Analysis, concludes that this reduced level appropriately accommodates various competing interests.^[608] The adopted level of 10 mils for access to protected quotes priced $1.00 or more reflects the views of many commenters to the Proposing Release ^[609] and has been suggested by market participants in other contexts.^[610] Further, as discussed above, a 10 mil cap strikes an appropriate balance between reducing the cap to help to address distortions in the market associated with the preexisting fee caps, while also preserving the ability of the national securities exchanges to continue to operate with their current net capture rates.^[611] Finally, the Commission has reviewed the fees charged by trading centers that do not have protected quotes so do not have an incentive to charge excessive fees to market participants required to access protected quotes and 10 mils is consistent with the range of rates assessed by such trading centers.^[612]

Other commenters recommended applying different access fee caps depending on the liquidity profile of a particular security.^[613] Further, some commenters suggested specific alternative models and/or levels of access fee caps.^[614] A few commenters stated that the access fee caps should be expanded to cover full depth-of-book quotations ^[615] or auctions.^[616] However, one commenter disagreed with these concerns and stated that “the fee cap has been equally applied to all stocks regardless of price, spread, or trading volume since it was enacted” and further stated that “[e]xchange processing costs are exactly the same” regardless of these varying characteristics.^[617]

As discussed above, the access fee caps under Rule 610 establish the upper limit for fees that trading centers can charge for access to protected quotations. The access fee caps do not apply to depth-of-book quotations or auctions because these are not protected quotations. As discussed throughout, the access fee caps are designed to preserve fair and efficient access to protected quotations, regardless of the liquidity profiles of NMS stocks. Trading centers are able to develop different fee structures within this construct and in a manner that is consistent with the Exchange Act. The Commission is not setting the access fee caps to a specific percentage of the ( print page 81660) minimum pricing increments in part because they address different regulatory objectives. An important objective of an access fee cap (to preserve access to protected quotes) is distinct from an objective of tick size ( e.g., to prevent stepping ahead of displayed orders).^[618] However, as discussed above, because the Commission is reducing the minimum pricing increment under Rule 612, it is also reducing the levels of the access fee caps to prevent the distortions that would occur if an access fee is more than one half of the tick.^[619]

Further, amending Rule 610 to adopt variable caps to reflect different liquidity profiles of different stocks would expand and change the objective of the rule, which is to ensure the fairness and accuracy of protected quotations by establishing an outer limit on the cost of accessing such quotations.^[620] The access fee caps were not designed to establish fees for executions, they were designed to limit the amount of fees that can be charged for access to the best priced quotes in the national market system. Trading centers may adopt fees (and rebates) to incentivize trading in NMS stocks with different liquidity profiles in a manner consistent with the Exchange Act, including the limits imposed by the access fee caps.

Another commenter stated that there is no valid basis to support a claim that the current fee cap is excessive.^[621] This commenter stated that the Commission did not substantiate reduced costs as a justification for lowering the access fee caps.^[622] This commenter also stated that, “the Commission present[ed] no cost-based methodology for arriving at the levels of access fee caps it proposes” ^[623] and therefore the proposed caps are “arbitrary and capricious” because the caps do not “bear a reasonable relationship to the actual costs of executing trades on the exchanges.” ^[624] The commenter further stated that “[t]echnology costs, and improvements thereto, are not significant determinants of access fee levels.” ^[625] Further, this commenter also stated that “exchange platform costs” ( i.e., the constellation of related services of which transaction services are only one part) to market participants have “remained competitive over time.” ^[626] Finally, according to this commenter, “access fees and rebates represent more than the simple economic costs to an exchange of effecting a trade; they also reflect the value of the information that quotes provide to the market, and the value to participants of having access to those quotes.” ^[627] Another commenter stated that the current cap was “rather arbitrarily selected” and in its view has “resulted in continued industry disagreement.” ^[628]

However, another commenter disagreed, stating “the current access fees are unreasonably high when taking into consideration the lower exchange costs stemming from increased efficiencies and technology advancements that have occurred since 2005.” ^[629] Although other trading costs have decreased, access fees have not and, according to this commenter, such fees “now represent an outsized portion of transaction costs.” ^[630] The commenter further stated it was appropriate for the Commission to rely on reduced costs to justify the reduction in the access fee cap.^[631] The commenter stated because “the 30-mil cap exceeds the typical cost to trade on non-protected venues, it encourages investors to seek alternatives to accessing displayed quotes” which drives order flow to off-exchange venues.^[632]

As discussed throughout this release,^[633] market participants have stated that the access fee caps are outdated and no longer reflect the current market structure. One commenter stated that the Commission, by identifying that the markets have changed due to market innovations and technological efficiencies and that transaction and trading costs had been reduced, and providing statements of market participants to support this statement,^[634] was suggesting that the access fee cap “no longer bears a reasonable relationship to the actual costs of a trade.” ^[635] This misconstrues the Commission's statement recognizing that the markets are different than they were in 2005. Under the preexisting access fee caps, fee and rebate structures have developed such that access fees are predominantly used to pay rebates to liquidity providers and these structures have resulted in distortions in the market.

The Commission considered many factors and the views of commenters, and balanced competing factors when it adopted the original fee caps in 2005.^[636] Likewise, as discussed above, the Commission again has considered and balanced many factors,^[637] including the effects on liquidity and trading costs for market participants ^[638] in coming to the determination that the 10 mils access fee cap is appropriate for all protected quotations priced $1.00 or more.^[639] As discussed throughout this release, the Commission has reduced the caps to a level that is sufficient to mitigate the market distortions associated with the fee schedules that have been developed under preexisting access fee caps and to accommodate the new minimum pricing increments under amended Rule 612, while also preserving the viability of the agency market business model.^[640]

Most exchanges provide access to protected quotations and retain an estimated net capture of 2 mils. ^[641] ( print page 81661) However, as discussed below,^[642] a net capture of 2 mils is not uniform across all exchanges and some have an estimated net capture that is higher than 2 mils.^[643] This suggests that the preexisting levels of the access fee caps are higher than necessary to preserve the viability of the agency market business models. The adopted level of 10 mils for access to protected quotes priced $1.00 or more is appropriate because it will allow trading centers to continue to provide access to protected quotations and retain a net capture to fund their transaction services. Recalibrating the level of the cap with a consideration of current market rates to provide execution services is appropriate and consistent with how the Commission set the preexisting rates.^[644]

Finally, as stated above, the access fee caps were not developed as a means to enable the payment of rebates. However, under the preexisting access fee caps, access fees are predominantly used to fund the rebates paid to liquidity providers. As also stated above and discussed further below, liquidity providers are able to post bid and offer prices that account for the risk of displaying protected quotations without needing the payment of a rebate.^[645]

In deciding to adopt a single 10 mil fee cap for all protected quotes in NMS stocks priced $1.00 or more, the Commission has also considered the rates charged by other agency markets for access to non-protected quotation liquidity because such trading centers are not subject to the preexisting 30 mils access fee cap and therefore the rates for execution services established by such markets are subject to competitive market forces that are not capped.^[646]

One commenter stated that ATS fees are not a good benchmark to determine the appropriate level of exchange access fees because, in their view, exchange access fees should be higher than off-exchange venues' access fees.^[647] This commenter stated that “[e]xchange access fees compensate for the risk associated with posting lit quotes as well as the value associated with accessing immediate liquidity.” ^[648] In addition, according to this commenter, exchange pricing is “designed to attract quotes, whereas ATS pricing is designed only for trades” and ATSs “leverage lit quotes” produced by exchanges to determine ATS's transaction pricing.^[649] Finally, this commenter stated that the rates charged by off-exchange venues “vary significantly in structure, functionality, and fees” to the extent they are actually known publicly and disagreed with the conclusion that “10 mils is a representative fee for accessing liquidity off exchange.” ^[650]

Other commenters disagreed.^[651] According to one commenter, certain ATSs provide specialty services such as block trading and the ability to use conditional order types to achieve certain trading strategies, and typically charge higher than 10 mils for such specialized services.^[652] However, according to this commenter, ATSs that operate a continuous book market are similar to exchanges that provide similar services and those ATSs charge “a maximum rate of 10 mils” for such services and such venues collectively represent approximately 42% of all ATS volume during 2023.^[653] According to this commenter, “this data is strong evidence that the standard comparative rate for immediate access to liquidity in NMS stocks on ATSs that offer this [continuous book] service is, in fact, 10 mils per share.” ^[654] This commenter further stated that exchanges are “able to charge higher prices than other markets, precisely because of the `protected quote' status” which is “what the SEC sought to prevent in 2005, in furtherance of the statutory goal of fair distribution of quotation information.” ^[655]

The fees charged by many ATSs that provide execution services similar to exchanges are often reflected in a range and sometimes are based on volume transacted, and ATSs typically do not pay rebates.^[656] As stated above, several commenters stated that a 10 mils access fee cap would be consistent with the access fees charged by ATSs.^[657] These statements are informative in considering an appropriate level of the access fee caps because they reflect the current market rate paid for execution services as reported by market participants.^[658] This, in concert with the net capture rates discussed above, suggests that the current access fee caps may not be consistent with current market rates for providing execution services.^[659]

Considering the rates charged by trading centers is consistent with the analysis the Commission conducted to determine the appropriate level of the preexisting access fee caps when it adopted them. Specifically, the Commission considered the access fees charged by ECNs and other types of trading centers, including self-regulatory organizations (“SROs”), when it adopted the preexisting 30 mil ( print page 81662) access fee cap to gain insight into the then current market rates for execution services.^[660] At the time of adoption in 2005, the $0.0030 fee limitation was based on the then-prevailing market rates for execution services and general business practices, as very few trading centers charged fees in excess of that amount.^[661] As it did in 2005 in establishing the preexisting fee caps, to determine the appropriate level of the amended access fee caps, the Commission has similarly considered the current market rate for execution services as measured by the rates charged by other trading centers as a factor in considering the level of the adopted access fee caps.^[662] This factor is useful in calculating the level of the access fee caps, but it is not the only factor. The Commission is balancing the need to set a level of the access fee caps to allow for fair and efficient access while also seeking to ensure that trading centers are not impaired in their ability to provide execution services.

e. Protected Quotes Priced Under $1.00

With respect to the access fee cap for protected quotations priced under $1.00, one commenter stated its view that “the negative impact of the proposed access fee caps is much more pronounced for securities priced less than $1.00.” ^[663] The commenter stated that for protected quotations priced less than $1.00, the “estimated revenue impact to exchanges providing rebates in these securities [those priced below $1] is not insignificant” and that “the access fee cap must remain unchanged to support competition, differentiation, and liquidity provision.” ^[664] This commenter also stated that “[s]implistic proportionality is not a sufficient justification for this reduction” and instead “[a]nalysis of whether there will be proportionate outcomes is necessary to overcome the arbitrary and capricious nature of this reduction.” ^[665] Finally, this commenter stated that the reduction would “likely impact exchanges' ability to differentiate, as well as materially limit the transaction revenue that exchanges apply towards developing innovative solutions that contribute to the robustness of the U.S. marketplace.” ^[666]

One commenter stated that reducing the access fee cap generally would reduce the disincentive to trade on exchanges because costs would be lower.^[667] Another commenter stated that the estimated loss in net capture due to the reduction in the access fees for protected quotation priced below $1.00 “will not harm the major exchanges.” ^[668]

The Commission is adopting a modified access fee cap of 0.1% of the share price for protected quotations priced under $1.00. The Commission proposed a lower access fee cap of 0.05% of the quotation price per share in light of the proposed 5 mils access fee cap. Since the 5 mils access fee cap is not being adopted, the Commission has modified the access fee cap for protected quotes priced under $1.00 so that it is consistent with the 10 mils access fee cap for protected quotes priced $1.00 or more.

The adopted 0.1% access fee cap will align this cap with the 10 mils access fee cap that will apply to protected quotations in NMS stocks priced $1.00 or greater.^[669] This alignment is consistent with the access fee caps that apply under the preexisting rule, which are 30 mils and 0.3% respectively. Alignment of the access fee caps for protected quotations in NMS stocks priced below $1.00 and those priced $1.00 and above is necessary to preserve continuity at the $1.00 cutoff to ensure that cost to access a protected quote for an NMS stock that is priced below $1.00 is not more compared to the cost to access a protected quote for the same NMS stock that is priced $1.00 or more.^[670] For example, an NMS stock could have a protected bid that is priced below $1.00 and a protected offer that is priced above $1.00. If the access fee cap for protected quotes priced below $1.00 remained at the preexisting level, the access fee for the protected bid would be almost three times higher than the access fee for the protected offer.^[671] In such an instance, it would cost more to trade against the bid than to trade against the offer and negatively impact incentives for accurate price formation.^[672]

The Commission understands that reducing the access fee cap for stocks priced below $1.00 could reduce exchange revenue.^[673] This is because exchanges typically charge the maximum fee of .3% for accessing protected quotes priced less than $1.00 and do not offer rebates, or offer rebates in small amounts.^[674] Accordingly, exchanges typically retain the full amount of the access fee charged. However, in order to prevent the distortions that would occur if a higher access fee cap were applied to protected quotes priced less than $1.00, the Commission is adopting the percentage cap that is aligned with the access fee cap that is applicable to protected quotes priced $1.00 or more to preserve continuity at the $1.00 cutoff.

f. Comments on Implementation

Some commenters stated that the Commission should build in an evaluation process to assess the benefits and any potential degradations to market quality resulting from changes to the access fee caps.^[675] One commenter stated that the rule should “include a mechanism in the rule to periodically re-evaluate the access fee caps set in the proposal to ensure that access fee levels continue to have the anticipated benefits.” ^[676] Others recommended application of the new access fee caps to a smaller subset of NMS stocks before rolling it out to all NMS stocks.^[677] One commenter stated that changes to access fees should be adopted as part of a pilot to allow for a study of the effects on market quality.^[678] Another commenter stated the Commission should first collect more data and industry input and conduct further analysis to determine the optimal access fee cap levels before proceeding.^[679] One commenter, however, disagreed that any delay to collect further data or conduct additional analysis was warranted. ^[680] ( print page 81663) According to this commenter, there is a “mountain of evidence supporting a reduction in the access fee cap from current levels” and “general consensus in favor of reducing the cap.” ^[681]

The Commission disagrees with commenters' suggestions that further study be conducted before adopting the amendment or that the amendment should be incrementally rolled out. A delayed or incremental approach to reducing the preexisting access fee caps would delay the benefits to investors of the reduced caps. The Commission has extensively considered the adopted amendments, reviewed all comments letters and conducted extensive economic analysis in deciding to adopt this amendment. The amended access fee caps will provide savings for investors and should be implemented.

E. Final Rule 610(d) Requiring That All Exchange Fees and Rebates Be Determinable at the Time of an Execution

Many exchange fees and rebates are calculated at the end of the month, which impedes the ability of market participants, including investors, to understand at the time of execution the full cost of their transaction. For example, the exchanges have developed complex fee and rebate schedules, some of which include tiers or other incentives based on a market participant's relative monthly trading volume or relative volume compared to the consolidated trading volume in the current month, with higher volume tiers receiving a higher (lower) per unit rebate (fee). This means that the exact fee or rebate amount for an order cannot be determined until the end of the month, after an execution occurs, and is not known to the parties to the trade at the time of execution. Further, uncertainty regarding the fee amount at the time of execution can hinder the ability of market participants to conduct best execution analyses and can affect order routing decisions.

To provide further transparency regarding transaction pricing, the Commission proposed to amend Rule 610 to add a new subsection (d) “Transparency of Fees,” which would prohibit a national securities exchange from imposing, or permitting to be imposed, any fee or fees, or providing, or permitting to be provided, any rebate or other remuneration ( e.g., discounted fees, other credits, or forms of linked pricing) for the execution of an order in an NMS stock unless such fee, rebate or other remuneration can be determined by the market participant at the time of execution. As the Commission explained in the Proposing Release, under proposed Rule 610(d), any national securities exchange that imposes a fee or provides a rebate that is based on a certain volume threshold, or establishes tier requirements or tiered rates based on minimum volume thresholds, would be required to set such volume thresholds or tiers using volume achieved during a stated period prior to the assessment of the fee or rebate so that market participants are able to determine what fee or rebate level will be applied to any submitted order at the time of execution.^[682] For example, if an exchange proposed a lower fee for members that reach a certain level of trading volume in a month, the required level of trading volume would have to be achieved based on a month prior to the imposition of the fee or payment of the rebate.^[683]

The Commission has considered commenters' views (as discussed below) and is adopting Rule 610(d) as proposed. Investors can use this information to assess their broker-dealer's routing decisions and such information will help to inform market participants' best execution analysis.

1. General Comments

The Commission received comments from a broad range of commenters who stated that proposed Rule 610(d) would provide enhanced transparency surrounding transaction fees and rebates ^[684] and alleviate concerns related to potential conflicts of interest.^[685] One commenter stated that proposed Rule 610(d) would “shed greater transparency on the use of fee and rebate tiers and their impact on individual trades” and “help to address concerns related to conflicts of interest[ ] because . . . investors will be in a better position to identify and seek the recovery of rebates that accrue specifically to their orders . . .” ^[686] Further, one commenter stated that such a change is “a great step forward and long overdue,” ^[687] and another commenter stated that it would be “a positive outcome for the industry and investors and w[ould] reduce market complexity and increase transparency.” ^[688] One commenter stated that Rule 610(d) “has the potential to facilitate broker-dealers in passing-through access fees and rebates to their customers, and in doing so, it could alleviate concerns [ ] about perceived conflicts-of-interest associated with the maker-taker model and the provision of exchange rebates to broker-dealers.” ^[689]

Other commenters' support for Rule 610(d) was more measured because they stated that the proposal did not go far enough to address market distortions resulting from fee and rebate tiers.^[690] One such commenter stated that although it was “encouraged about eliminating the retroactive attributes of exchange volume tiers,” it felt a “more optimal solution [ ] would be to remove them entirely” ^[691] because “exchange ( print page 81664) volume tiers create barriers to entry that only benefit the largest, most active trading firms at the expense of smaller competitors.” ^[692] One commenter stated its support for Rule 610(d), but also stated that the Commission should “take additional steps . . . to prohibit or restrict the use of CADV-based tiers,” which in this commenter's view are “by their nature [ ] highly anti-competitive and discriminatory.” ^[693] Further, one commenter “encouraged the Commission to review and address the issue of `bespoke' pricing tiers prevalent in today's volume tiered pricing models.” <sup>[694]</sup> Another commenter, while agreeing with the objective of fee transparency, was skeptical that Rule 610(d) “would `materially reduce' uncertainty regarding the fee amount at the time of execution” and stated that the proposal would provide “little practical transparency for most Market Participants.” ^[695]

Rule 610(d) will provide additional certainty, transparency and clarity to exchange fee structures, which will assist investors and other market participants in assessing their order placement. Further, certainty about the cost of a transaction at the time of the trade will help broker-dealers make more informed order routing decisions, particularly benefitting customers that are sensitive to transaction costs at the execution venue, because broker-dealers and their customers will know with more certainty the cost of an exchange transaction at the time of the trade. Investors will be able to obtain or request at the time of execution details about the exchange fees and rebates assessed on their orders without having to wait weeks until that pricing is determined and invoiced.

In addition, because the rule will allow market participants to know the amount of fees and rebates that are applicable to their transactions at the time of the trade, the rule will facilitate the ability of broker-dealers to pass back to their customers, if the customer requests and the customer and the broker-dealer both are able to accommodate the pass-through of fees, rebates, and other forms of remuneration in a more timely fashion.^[696] Today, lower fees or higher rebates based on volume achieved in a current trading month can lead to routing for purposes of achieving a certain level of volume or attaining a possible tier level rather than routing solely to achieve best execution. While tiers that are based on volume from a previous time-period may still incentivize routing by a broker-dealer to try to secure a higher rebate/lower fee tier in the following month, certainty regarding what tier applies at the time of trade will facilitate the ability of a broker-dealer to pass those fees and rebates through to their customers, if they so decide,^[697] on a more timely basis because they will be known at the time of the trade.^[698] Requiring certainty regarding the amount of the fee/rebate is an incremental step toward addressing commenters' concerns regarding the ability of exchanges and brokers to pass back the actual fee or report on each transaction.

If market participants pass through in their entirety the exchange fees/rebates to their customers, an ancillary benefit of the new rule will be that the potential inducement to broker-dealers to route orders based on garnering the highest rebate/paying the lowest fee will be reduced since a broker-dealer would no longer retain for itself the transaction pricing benefit from its routing decision. The new rule also will facilitate a customer's ability to obtain more timely information about what exchange transaction pricing the broker-dealer receives, which may increase accountability of the broker-dealer to the customer in ways that could lead to better order execution and more transparency regarding the fees/rebates applicable to a particular order.

Other commenters voiced support for the Commission's objectives in proposing Rule 610(d), but suggested certain modifications. One commenter stated that it “did not object in principle to . . . requir[ing] exchanges to set volume-based access fees and rebates as of the time of execution” provided other market centers would be held to “the same standards of transparency.” ^[699] As discussed in the Proposing Release, exchange fees and the fees of non-exchange trading centers are treated differently under the Federal securities laws.^[700] Specifically, non-exchange fees are not subject to the requirements applicable to exchange fees under sections 6(b) and 19(b) of the Exchange Act ^[701] and rule 19b-4 thereunder.^[702] Exchange fees are subject to the requirements of the Exchange Act and the rules thereunder, which requires, among other things, that every exchange post and maintain a current and complete version of the entirety of each and every fee, due, and charge assessed by an exchange,^[703] and that such exchange rules applicable to fees must provide for the equitable allocation of reasonable dues, fees, and other charges among its members and issuers and other persons using its facilities and not be designed to permit unfair discrimination between customers, issuers, brokers or dealers.^[704] Rule 610(d) is consistent with that statutory framework as it provides members and their customers with more certainty and transparency at the time of trade when exchange transaction pricing may be relevant to, and impactful on, the broker-dealer's order routing decision. New Rule 610(d) is narrowly tailored to improve certainty and transparency regarding exchange fees and rebates within the current regulatory framework.

One commenter stated that the proposal might make it more difficult ( print page 81665) for smaller broker-dealers to compete against established firms because “participation in the exchanges' growth programs” might become more expensive in the initial month of participation and “limit exchanges' ability to incent market makers and other participants to quote at the NBBO and to do so in a large number of securities, including thinly-traded securities.” ^[705] The commenter did not provide detail as to how these impacts would arise, but requested the Commission to “exempt growth programs and special pricing programs that reward market makers and other participants for quoting at the NBBO and providing market quality” from the requirements of Rule 610(d).^[706]

Finally, some commenters did not support proposed Rule 610(d) because they stated it would negatively impact the ability to incentivize liquidity provision, “disrupt[ ] existing economic incentives without justification,” ^[707] add “an unnecessary layer of complexity,” ^[708] and inappropriately “wade into the business of telling private companies how to charge their customers.” ^[709] One commenter stated that “existing fee constructs such as volume-based pricing tiers are important tools that allow exchanges to compete with one another and with non-exchanges.” ^[710] This commenter further stated that volume-based tiers are entirely consistent with the Exchange Act and vital tools exchanges use to “incentivize greater participation and improve liquidity and market quality.” ^[711] Finally, one commenter stated that the Commission “include[d] no data [ ] showing this change would cure any harm, nor does it claim any anticipated benefits that might flow from this change.” ^[712]

The new rule does not prohibit exchange liquidity provision incentives nor add complexity as suggested by some commenters. It instead shifts the time of calculating fees or rebates so that investors and other market participants are informed, when placing an order, of the amount of the fee or rebate that will be assessed. Rule 610(d) does not alter an exchange's ability to offer incentive programs based on volume tiers or any another metric; rather it will provide prospective certainty regarding what fee/rebate the market participant will incur/earn by achieving the requisite benchmark. Therefore, exceptions for liquidity provision incentives are not appropriate or necessary. Further, Rule 610(d) does not require exchange fees, rebates or other remuneration to be based on activity from a specific measurement period provided the metric used can be achieved prior to the time of execution, nor does it impose any obligations or additional costs on market participants to perform any new calculations, make new projections or forecasts, or undertake any new responsibilities. The Commission is not requiring market participants to undertake any obligations regarding the calculation of the applicable fee/rebate. Instead, Rule 610(d) will facilitate a market participant's ability to know the amount of the fee/rebate based on historical (rather than future) volume, so that it can understand how a volume-based fee/rebate will apply at the time of execution.^[713] Rule 610(d) will allow market participants to calculate the amount of the fee/rebate using data available at the time of execution rather than have to forecast or estimate the cost of their transaction. As discussed below, this certainty and transparency regarding the fee and rebate that will apply to a particular transaction will benefit market participants and improve market quality.^[714]

Further, one commenter requested the Commission withdraw proposed Rule 610(d) in light of its subsequent proposed rule addressing volume-based transaction pricing because the proposals are “inextricably linked” and “so contradictory and indeterminate that the public has not had a reasonable opportunity to comment on what the Commission is actually proposing.” ^[715]

The Commission disagrees. The Fee Tiers Proposal remains a proposal. As explained throughout this section, the increased certainty and transparency Rule 610(d) will require will provide benefits to investors and other market participants on its own. Further, the two proposals are not contradictory because Rule 610(d) applies to all exchange fees and rebates not just those that are volume-based, whereas the Fee Tiers Proposal specifically concerns volume-based pricing and agency-related orders as well as a disclosure requirement that would be fully compatible with Rule 610(d). Accordingly, both proposals are compatible in their different scopes, objectives, and application and so are not in conflict. In addition, Rule 610(d) is not indeterminate but rather straightforward; the public has had the opportunity to comment and many have, in fact, so commented.

Another commenter stated the Commission should revise proposed Rule 610(d) to require fees and rebates to be known “ before the time of execution” and require “all affected trading venues to publish their fees in machine-readable format” to allow market participants to more readily consume a trading venue's fee schedule and update participant systems.^[716] Implicit in the requirement that fees/rebates be determinable at the time of execution is use of historical, rather than future, volume to benchmark any qualifying criteria for a particular fee/rebate and thus the fee/rebate would be calculatable or determinable before the time of execution. For a fee to be determinable at the time of execution, it must be ascertainable before or contemporaneously with the execution. Otherwise, the purpose of Rule 610(d)—to provide certainty and transparency regarding what fee/rebate will apply at the time of execution—would be undermined. No change or clarification of Rule 610(d) is necessary because implicit in the requirement that fees/ ( print page 81666) rebates be determinable at the time of execution is the ability to calculate the fee/rebate prior to execution.

Finally, new Rule 610(d) enhances transparency regarding exchange fees and rebates but does not require a specific format for publication of the information. Exchange fees are required to be posted on exchange websites ^[717] and, as is true today, if market participants need a specific format, they can make such requests to the exchanges.

V. Final Rule—Transparency of Better Priced Orders

The Commission, among other things, adopted new definitions of round lot ^[718] and odd-lot information ^[719] under the MDI Rules to enhance the transparency for investors and other market participants of quotes and orders in NMS stocks that have better prices than what has been provided in SIP data.^[720] In the Proposing Release, the Commission proposed: (1) to accelerate the implementation of these two definitions adopted under the MDI Rules, (2) an amendment to the definition of “regulatory data” in Rule 600(b)(78)(iv),^[721] (3) to require each exclusive SIP to represent quotation sizes in consolidated information in terms of the number of shares, rounded down to the nearest multiple of a round lot, and (4) to amend the definition of odd-lot information to include a best odd-lot order. As discussed in detail below, the Commission is: (1) adopting an accelerated implementation schedule for the round lot and odd-lot information definitions, with modifications to the proposed implementation schedule; (2) adopting the amendment to the definition of “regulatory data”, as proposed; ^[722] (3) requiring each exclusive SIP to represent quotation sizes in consolidated information in terms of the number of shares, rounded down to the nearest multiple of a round lot, as proposed; and (4) modifying the Commission's approach in the Proposing Release by adopting amendments to the round lot definition that will require less frequent round lot adjustments— i.e., semiannually, rather than monthly—by defining a round lot “Evaluation Period” and by specifying an operative period.^[723] In addition, the Commission is adopting the best odd-lot order data element, as proposed.

A. Background

The MDI Rules expanded NMS information and established a decentralized consolidation model, pursuant to which competing consolidators will eventually replace the exclusive SIPs for the collection, consolidation, and dissemination of NMS information.^[724] The Commission adopted a phased transition plan for the MDI Rules,^[725] which has been delayed.^[726] Accordingly, NMS information is currently collected, consolidated and disseminated within the national market system by the exclusive SIPs as SIP data.^[727]

Because the MDI Rules are not yet implemented, NMS stock quotation information that is included in SIP data is provided in round lots, as defined in exchange rules,^[728] and for most NMS stocks a round lot is defined as 100 shares.^[729] Under Rule 600(b)(93), as adopted by the MDI Rules,^[730] round lot sizes are assigned to each NMS stock based on its average closing price and those NMS stocks that have an average closing price in the prior month greater than $250.00 will be assigned a round lot in a size that is less than 100 shares.

Moreover, because the MDI Rules are not yet implemented, information about orders in NMS stocks that have a size less than a round lot, i.e., odd-lot orders, is available on individual exchange proprietary data feeds, and market participants interested in quotation information for individual odd-lot orders must purchase these proprietary feeds.^[731] SIP data includes odd-lot transaction information but does not include odd-lot quotation information, except to the extent that odd-lot orders are aggregated into round lots pursuant to exchange rules.^[732]

The MDI Rules were designed to increase transparency into, among other things, the best priced quotations available in the market.^[733] Under the MDI Rules' phased transition plan, the round lot and odd-lot information definitions were scheduled to be implemented during later phases in order to avoid imposing costs on the exclusive SIPs, which will be retired upon full implementation of the MDI Rules.^[734] Due to the delays in the MDI Rules' implementation, as discussed in the Proposing Release,^[735] the Commission is adopting an accelerated implementation schedule, with some modifications from the proposal, so that market participants, including investors, will be provided with the enhanced transparency benefits earlier than anticipated in the MDI Rules.

B. Final Rule—Round Lots

The Commission is amending the implementation schedule for the round lot definition that was adopted in the MDI Rules. The round lot definition will be implemented on the first business day of November 2025. This adopted compliance date is modified from the proposal, which required compliance with the round lot definition 90 days from Federal Register publication of any Commission adoption of an earlier implementation of the round lot definition.^[736] The Commission has provided more time than what was proposed so that market participants can update and modify their systems.^[737] However, the adopted compliance date still accelerates the time by which the definition will be implemented as compared to the preexisting schedule adopted in the MDI Rules.^[738]

In addition, the Commission is amending the round lot definition to include a new definition for an “Evaluation Period” and a provision specifying the operative dates for round lot assignments. These amendments will align the dates for assigning round lots ( print page 81667) to the dates for assigning minimum pricing increments under Rule 612.^[739]

Finally, the Commission is also adopting, as proposed, the amendment to the “regulatory data” definition in Rule 600(b)(89)(iv).^[740]

1. Round Lot Definition

Rule 600(b)(93), as adopted by the MDI Rules,^[741] defines a round lot for NMS stocks that have an average closing price on the primary listing exchange during the prior calendar month of: (1) $250.00 or less per share as 100 shares; (2) $250.01 to $1,000.00 per share as 40 shares; (3) $1,000.01 to $10,000.00 per share as 10 shares; and (4) $10,000.01 or more per share as 1 share.^[742] For any new NMS stock for which the prior calendar month's average closing price is not available, a round lot is 100 shares. As a result of the MDI Rules' round lot definition, each exchange's BBO and the NBBO for an NMS stock could be based upon smaller, potentially better priced orders,^[743] which would improve transparency regarding the better priced quotations available in the market and the ability of market participants to access these quotations.^[744]

In the MDI Adopting Release, the Commission analyzed data from May 2020 on the portion of all corporate stock and ETF volume executed on an exchange, transacted in a quantity less than 100 shares, at a price better than the prevailing NBBO, occurring in a quantity that would be defined as a round lot under the MDI Rules.^[745] The Proposing Release repeated this analysis using data for the dates March 25-31, 2022.^[746] Both analyses demonstrated that the round lot definition adopted in the MDI Rules will capture significant percentages of better priced odd-lot orders for NMS stocks with an average closing price greater than $250.00.

The Commission has updated this analysis from the Proposing Release with data from October 2023. As discussed below, upon further consideration and evaluation of comments, the Commission is adopting modifications to the round lot definition to require less frequent round lot adjustments so that they occur on a semiannual basis, rather than on a monthly basis and the calculation of the average closing price on the primary listing exchange will be based on a one-month “Evaluation Period.” ^[747] The updated analysis accounts for the modifications to the round lot definition and is based on data from October 23-27, 2023, using a March 2023 Evaluation Period to be consistent with the adopted rule.^[748] The updated analysis demonstrates that the round lot definition, as amended, will capture significant percentages of better priced odd-lot orders.

Tables 1 and 2 examine the portion of all corporate stock and ETP share volume and trades executed on an exchange, transacted in a quantity less than 100 shares, at a price better than the prevailing NBBO, occurring in a quantity defined as a round lot under the MDI Rules, as amended by the Commission.

Table 1

Round lot tier	Round lot size (shares)	Percent 1
$0-$250.00	100	0.00
$250.01-$1,000.00	40	52.89
$1,000.01-$10,000.00	10	76.89
$10,000.01 or more	1	100.00
1  Portion of all corporate stock and ETP share volume executed on an exchange, transacted in a quantity less than 100 shares, at a price better than the prevailing NBBO, occurring in a quantity that would be defined as a round lot under the MDI Rules as amended, for Oct. 23-27, 2023.
Source: Equity consolidated data feeds (CTS and UTDF), as collected by MIDAS; NYSE Daily TAQ.

( print page 81668)

Table 2

Round lot tier	Round lot size (shares)	Percent 1
$0-$250.00	100	0.00
$250.01-$1,000.00	40	13.79
$1,000.01-$10,000.00	10	26.63
$10,000.01 or more	1	100.00
1  Portion of all corporate stock and ETP trades executed on an exchange, transacted in a quantity less than 100 shares, at a price better than the prevailing NBBO, occurring in a quantity that would be defined as a round lot under the MDI Rules as amended, for Oct. 23-27, 2023.
Source: Equity consolidated data feeds (CTS and UTDF), as collected by MIDAS; NYSE Daily TAQ.

The Proposing Release also included the results of a simulation conducted by the Commission, using exchange direct feed data from MIDAS for every trading day in March 2022, to create a mockup competing consolidator feed that included quotation information for a sample of NMS stocks priced at or over $250.01 using the priced-based round lot sizes adopted in the MDI Rules' round lot definition as opposed to the round lot sizes that are defined in current exchange rules (typically 100 shares).^[749] Snapshots of this simulated feed were compared against snapshots of the exclusive SIP feed for the sample of NMS stocks at the same point in time. For two of the three round lot price tiers above $250.01, the simulated competing consolidator feed showed better prices, on average, than the exclusive SIP feed.^[750]

The Commission has updated this analysis using exchange direct feed data from MIDAS for every trading day in November 2023 and to account for the modifications to the round lot definition.^[751] Like the prior analysis, the Commission conducted a simulation of a competing consolidator feed that provides quotation information for a sample of NMS stocks priced at or over $250.01 using the priced-based round lot sizes adopted in the MDI Rules' round lot definition as opposed to the round lot sizes that are defined in current exchange rules (typically 100 shares).^[752] Snapshots of this simulated feed were compared against snapshots of the exclusive SIP feed for that NMS stock at the same point in time. For two of the three price tiers and corresponding round lot sizes, the simulated feed showed better prices, on average, than the exclusive SIP feed.^[753] For stocks priced between $250.01 and $1,000.00 per share, which will have a round lot size of 40 under the round lot definition, the price reflected in the simulated competing consolidator feed was better than the exclusive SIP feed 31.93% of the time and worse less than .1% of the time. For stocks priced between $1,000.01 and $10,000.00 per share, which will have a round lot size of 10 under the round lot definition, the price reflected in the simulated competing consolidator feed was better than the exclusive SIP feed 80.77% of the time and worse less than .2% of the time. The updated analysis continues to demonstrate that the simulated competing consolidator feed, which reflects the round lot sizes adopted in the MDI Rules' round lot definition, provides better prices than the exclusive SIP feeds, which reflect the prior round lot size, in NMS stocks priced over $250.01, even with the modifications to the round lot definition.^[754]

2. Proposed Acceleration of Round Lot Definition

The Commission proposed to accelerate the implementation of the round lot definition set forth in Rule 600(b)(93).^[755] Specifically, the Commission proposed to require compliance with the round lot definition 90 days from Federal Register publication of any Commission adoption of an earlier implementation of the round lot definition.^[756]

In the MDI Adopting Release, the Commission stated that “sequencing [round lot implementation] after the parallel operation period is important to avoid either: (1) potential confusion and market disruption that could result from two different round lot structures operating at the same time; or (2) imposing reprogramming costs on the exclusive SIPs for a limited time period prior to their retirement.” ^[757] However, because full implementation of the MDI Rules as adopted pursuant to the phased transition plan ^[758] likely will not occur until at least two years after new proposals to amend the effective national market system plan(s) are developed, filed and approved by the Commission,^[759] the Commission ( print page 81669) proposed to amend the phased transition schedule of the MDI Rules to allow the benefits of the round lot definition to be made available to investors sooner.^[760] The benefits identified in the MDI Adopting Release justify the costs of accelerating the implementation of the round lot definition in this rulemaking.^[761]

Further, as part of accelerating the implementation of the round lot definition, the Commission proposed to amend the definition of “regulatory data” in Rule 600(b)(78) to require the indicator of the applicable round lot size to be provided to the exclusive SIPs for collection and dissemination.^[762] The preexisting definition of “regulatory data” required the primary listing exchange for an NMS stock to provide to competing consolidators and self-aggregators an indicator of applicable round lot size.^[763] The Commission proposed to add new paragraph (iv) to the definition of “regulatory data” to require the primary listing exchanges to also make the indicator available to the exclusive SIPs.^[764] Referencing the round lot indicator adopted with regard to competing consolidators in the MDI Rules, the Commission stated that such an indicator will “help market participants ascertain the applicable round lot size for each NMS stock on an ongoing basis” ^[765] and “reduce confusion as market participants adjust to the new round lot sizes.” ^[766] For these same reasons, the Commission proposed to require this indicator to be provided to the exclusive SIPs for collection and dissemination.^[767]

3. Comments and Response

a. Comments Supporting the Proposed Change

The Commission received comments in support of the proposed acceleration of the implementation of the round lot definition from individuals,^[768] firms,^[769] exchanges,^[770] and associations.^[771] Several commenters supported the proposed acceleration of the implementation of the round lot definition because they said that it would improve transparency ^[772] and enhance price discovery.^[773] Several commenters stated that the proposed change would result in more accurate prices,^[774] allow investors to make more informed trading decisions,^[775] improve execution quality,^[776] and reduce transaction costs and inefficiencies.^[777]

One commenter supported the proposed acceleration of the implementation of the round lot definition because the commenter said it would narrow the NBBO spread by incorporating current odd-lot interest and “mak[ing] the notional size associated with the NBBO more uniform across stock price levels.” ^[778] Another commenter supported the proposal because the round lot definition “would enhance the accuracy of the NBBO for high-priced stocks.” ^[779] Some commenters supported the proposed acceleration of the implementation of the round lot definition because they stated that this change would restore public trust,^[780] or because this change and the dissemination of odd-lot information by the exclusive SIPs would enhance reporting efficiency and reduce delays.^[781] Commenters also supported the proposed acceleration of the implementation of the round lot definition because they stated that the round lot definition would result in lot sizes that would better suit the needs of investors.^[782]

In the MDI Adopting Release, as well as the Proposing Release, the Commission described the benefits of the adopted round lot definition.^[783] The Commission stated that the new round lot definition will “narrow NBBO spreads for most stocks with prices greater than $250,” ^[784] improve transparency and “the comprehensiveness of and usability of core data, facilitate the best execution of customer orders, and reduce information asymmetries.” ^[785] The Commission also stated that the reduced round lot size for high priced NMS stocks would “better ensure the display and accessibility of significant liquidity for high-priced stocks.” ^[786] Some commenters supported the proposed acceleration of the implementation of the round lot definition but stated that more time than proposed was needed ( print page 81670) for compliance.^[787] As discussed later in this release, the Commission is providing more time to implement the round lot definition than the 90-days that was proposed for implementation.^[788]

One commenter supported the proposed acceleration of the implementation of the round lot definition subject to “regulatory and industry-wide education to investors on the changes.” ^[789] As with many regulatory changes, investor education and notification may be useful so that investors better understand the implications of the size of their orders.

b. Comments Objecting to the Proposed Change

The Commission also received comments that raised objections to specific aspects of the proposed acceleration of the implementation of the round lot definition. These comments are addressed below.

i. Comments on the Interaction Between the Round Lot Definition and the Proposed Minimum Pricing Increments

The Commission received comments that expressed concern about the potential impact of both the implementation of the round lot definition and the proposed changes to the minimum pricing increments.^[790] Specifically, some commenters raised concerns about the potential impact of both proposed changes on liquidity and NBBO depth.^[791] One commenter stated that smaller round lot sizes would make the NBBO “less robust, as a smaller amount of liquidity would now establish the NBBO benchmark,” compounded by the proposed reduction in quoting tick sizes that would require liquidity to be dispersed in finer pricing increments.^[792] One commenter stated that the proposed minimum pricing increments and “the round lot reforms” would be duplicative because they would both result in narrow spreads.^[793] In addition, one commenter stated that the round lot definition and proposed minimum pricing increments “would significantly reduce transparency on the SIP and force more participants to purchase costly direct feeds to maintain the same level of transparency of liquidity.” ^[794]

Although the Commission agrees that both the round lot definition adopted in the MDI Adopting Release and the amended minimum pricing increments will impact the NBBO and will result in a narrower spread for impacted NMS stocks, the NMS stocks that would be subject to both the round lot definition and the amended minimum pricing increments are likely to be very small in number and also extremely liquid, which could counteract any potential harm to liquidity resulting from the interaction of both changes. The round lot definition adopted in the MDI Adopting Release and the amended minimum pricing increments each will impact the NBBO and each will result in a narrower spread for those NMS stocks that are assigned a smaller round lot ^[795] or a smaller minimum pricing increment.^[796]

The round lot definition will narrow the spread for NMS stocks that have an average closing price over $250 per share by showing better prices for these stocks. The amended minimum pricing increments will reduce the spread for those NMS stocks that have a narrow TWAQS and will allow these stocks to be priced more competitively in smaller increments, which will more accurately reflect supply and demand. Accordingly, the smaller round lot and the smaller minimum pricing increment narrow spreads in different ways. In response to the comment stating that the round lot definition and the proposed tick size changes are duplicative because they would both result in narrow spreads,^[797] both requirements will narrow spreads, but they are not duplicative.

Although there may be NMS stocks that are assigned both a smaller round lot and a smaller minimum pricing increment, Commission analysis of data discussed below shows that this overlapping universe of NMS stocks is very small. In other words, most NMS stocks will not be assigned both a round lot that is less than 100 shares and a smaller $0.005 minimum pricing increment and therefore will not experience a combined impact on the NBBO spread or depth. As explained in the analysis, since only a few NMS stocks are expected to be subject to both a smaller round lot and a smaller tick size, the potential combined impact of the amendments to the minimum pricing increments and round lots should be limited.^[798] Specifically, in response to comments expressing concerns about the combined impact of the proposed smaller minimum pricing increments and the implementation of the round lot definition,^[799] the Commission conducted the analysis to determine the magnitude of NMS stocks that would be impacted by both changes. According to the Commission's analysis, as of November 30, 2023, only 163 NMS stocks were priced above $250.00 per share and would have been potentially eligible to be assigned to a round lot size smaller than 100 shares, out of a universe of 11,200 NMS stocks on that date.^[800] Further, based on Commission review of the 163 NMS stocks that would have been assigned to a round lot less than 100 shares, as of November 30, 2023, only two out of the 163 had an average quoted spread over the previous thirty trading days of $0.015 or less and therefore may have been potentially eligible to have been assigned to the smaller $0.005 minimum pricing increment.^[801] The two NMS stocks—SPY and QQQ—are among the most liquid exchange-traded products.^[802] For the month of November 2023, SPY had the highest average daily traded value, while QQQ was ranked second in average daily traded value.^[803]

( print page 81671)

Based on this information, while the Commission recognizes that the interaction of the minimum pricing increment and the round lot definition may result in some reduction of depth for the very few NMS stocks that may be subject to both a smaller tick size and a round lot size of less than 100 shares,^[804] the impact of the reduction of NBBO depth should not be of such a level as to impede trading in the affected NMS stocks because these stocks are highly liquid, which should greatly mitigate the impact of reduced depth at the NBBO.^[805] Furthermore, these changes will benefit investors and other market participants trading these stocks through more accurate pricing and a reduction in spreads. While the extent of any reduced depth at the NBBO is not known at this time, due to the volume traded in these two NMS stocks, any potential reduction will not impair market participants' ability to trade these stocks because these stocks would be among the most liquid and therefore easily traded.^[806]

Additionally, some liquidity that is consolidated at the preexisting round lot ^[807] and $0.01 minimum pricing increment may be reflected in the adopted round lot sizes and smaller minimum pricing increment. Specifically, some odd-lot orders are currently aggregated into the 100-share round lot.^[808] Upon implementation of the round lot definition, some orders that were considered odd-lots may be of round lot size as defined. Further, interest that is displayed at the previously required $0.01 minimum pricing increment may be reflected in orders that are entered in the smaller tick size. Once these amendments are implemented, the NBBO will reflect better prices, both because of the smaller round lot size for some NMS stocks and new $0.005 increment for some other NMS stocks. As smaller sized orders in higher priced stocks are often priced better than orders that are currently in round lots, the smaller round lot sizes will allow potentially better priced orders to be the basis of the NBBO.^[809] The new $0.005 increment will also result in the NBBO reflecting better prices because the smaller increment will allow orders to be priced in a manner that is more reflective of the supply and demand of liquidity for the stock.^[810] Accordingly, each of these amendments will result in narrower NBBO spreads and better prices.^[811] Further, those market participants that may need to trade in large sizes may be able to see liquidity outside of the NBBO by considering the new odd-lot information that will be available in SIP data as well as depth of book data that is available via exchange proprietary data feeds.^[812]

In response to the comment that raised concerns about the potential for the proposed variable minimum pricing increments and the new round lots to reduce transparency on the exclusive SIPs,^[813] for the reasons discussed above,^[814] the combined impact of the adopted minimum pricing increments and round lot definition should not reduce transparency for most NMS stocks and the exclusive SIPs will provide a more accurate NBBO once these amendments are implemented. While the round lot will be smaller for certain NMS stocks, as described above, the NBBO based on the new round lots will in many cases reflect better prices.^[815] Therefore, while the actual number of shares will be smaller for certain NMS stocks, the disseminated prices will likely be better.^[816] In addition, as discussed above, the new minimum pricing increment required under Rule 612 for certain NMS stocks will allow the NBBO that is disseminated by the exclusive SIPs to reflect more competitive pricing. These amendments will enhance the NBBO that is calculated and disseminated by the exclusive SIPs by reflecting more competitive and better available prices.^[817]

Commenters also expressed concern that the implementation of the round lot definition and the proposed changes to the minimum pricing increments would confuse investors.^[818] One commenter warned that changes to round lots and tick sizes would confuse retail investors and reduce trust in the market.^[819]

Because there are expected to be only a small number of NMS stocks that could be subject to both a change in a minimum pricing increment and a change to the round lot size, the risk of investor confusion is limited. Market participants may choose to educate investors about the new round lot and amended minimum pricing increments, as they sometimes choose to educate investors regarding other regulatory changes that impact how investors enter orders. Investors are already familiar with three round lot sizes ^[820] and two minimum pricing increments,^[821] so the addition of only one round lot size and one minimum pricing increment is unlikely cause investor confusion.^[822] The Commission is also adopting new indicators for dissemination on the exclusive SIPs of the assigned round lots and minimum pricing increments to alert market participants, including investors, of the relevant round lot and minimum pricing increment for each NMS stock. These indicators will also help to mitigate concerns about any potential for investor confusion.^[823]

ii. Comments on the Round Lot Indicator

The Commission proposed to amend Rule 600(b)(78) to add a requirement to make the indicator of the applicable round lot size available to the exclusive ( print page 81672) SIPs in Rule 600(b)(78)(iv).^[824] The Commission is adopting this requirement as proposed in Rule 600(b)(89)(iv).^[825] The Commission did not receive comments specifically supporting or objecting to the proposed amendment. However, two commenters cited this requirement as support for their arguments that the proposed 90-day compliance deadline for the round lot and odd-lot information definitions would provide an insufficient amount of time.^[826] As discussed below,^[827] the Commission is providing more time for compliance with the round lot definition, which is a substantially longer period for compliance than the 90 days that was proposed.^[828] The Commission is providing a longer compliance period than proposed after considering the information provided by commenters that requested more time to comply with the implementation of the round lot definition, including implementation of the round lot indicator.^[829] The additional time will provide market participants with time to make the changes necessary to implement the round lot indicator.

iii. Comments on the Round Lot Definition

The Commission received comments on the round lot definition that was adopted in the MDI Rules.^[830] Commenters raised concerns about the defined round lot sizes,^[831] the determination of round lot size based on price,^[832] the impact of smaller round lot sizes on the relevance of the NBBO,^[833] and the impact of the round lot definition as well as the odd-lot information definition on bandwidth.^[834] The Commission considered and addressed issues related to adopting the round lot definition and the odd-lot information definition in the MDI Adopting Release.^[835]

One commenter stated that investors trading in options may be confused by the round lot definition, stating that retail investors who trade options know one options contract represents 100 shares or a “round lot.” ^[836] The Commission considered and addressed the interaction of the new round lot definition and options trading in the MDI Adopting Release.^[837] Further, it is unlikely that the acceleration of the round lot definition could confuse retail investors trading in options. Specifically, the round lot size will not change the size of the options contract and precedent exists for standard options contracts on stocks with a round lot size less than 100 shares.^[838] Furthermore, corporate actions, such as rights offerings, stock dividends, and mergers can result in adjusted contracts representing stock in amounts other than 100 shares, so investors have some familiarity already with options on underlying NMS stocks that have a “round lot” that is less than 100 shares.^[839]

Several commenters also suggested eliminating the concept of round lots altogether.^[840] The Commission is not eliminating the concept of round lots. As the Commission stated in the MDI Adopting Release, round lot orders continue to play an important role in the national market system by delineating orders of meaningful size and focusing regulatory requirements and protections—such as those set forth in rules 602, 604 and 611 of Regulation NMS—on such orders.^[841] Further, as the Commission stated in the MDI Adopting Release, eliminating the concept of a round lot could also cause investor confusion and other unintended consequences.^[842]

iv. Modified Round Lot Assignment Frequency and Evaluation Period for Round Lots

Under the MDI Rules, each NMS stock was assigned a round lot size every month based on its average closing price for the prior calendar month on its primary listing exchange.^[843] Commenters raised concerns about potential confusion and operational risks arising due to the fact that round lots and the proposed minimum pricing increments would be changed at different times,^[844] and several commenters suggested aligning the assignment of round lots and minimum pricing increments, either on a quarterly or on a semiannual basis.^[845] One commenter stated “having two to four adjustments per year strikes the appropriate balance between having the optimal round lot and minimum pricing increment with reducing the time that market participants are adjusting to the changes.” ^[846] Another commenter warned that having differing assignment schedules for round lot sizes and minimum pricing increments “will materially elevate systemic risk since it only requires a single large market participant to create widespread disruption by failing to properly modify their systems.” ^[847] The commenter suggested reducing the frequency of changes to quarterly or semiannually and synchronizing the round lot and minimum pricing increment changes.^[848]

After further consideration, the Commission agrees with the concerns ( print page 81673) raised by the commenters. Frequent systems changes and updates can introduce risks for market participants and the market, and frequent changes to the terms of how an order is entered for an NMS stock can potentially cause investor confusion. Therefore, the Commission is amending the round lot definition to make the timing for assigning round lots consistent with the timing for assigning minimum pricing increments. Such alignment on a semiannual basis will help to facilitate an orderly market and help reduce operational risks and investor confusion.

As described above, the Commission is adopting a definition of Evaluation Period under Rule 612 that will result in the assignment of minimum pricing increments on a semiannual basis instead of on a quarterly basis, as proposed.^[849] The Commission has therefore decided to amend the round lot definition to change the frequency of round lot changes from a monthly basis to a semiannual basis (the round lot sizes and price tiers for assigning round lots adopted in the MDI Adopting Release have not changed). Specifically, the Commission is amending Rule 600(b)(93) to require round lots to be assigned on a semiannual basis instead of on a monthly basis, which will match the minimum pricing increment assignment frequency of amended Rule 612.^[850] Amended Rule 600(b)(93)(i) will assign each NMS stock to a round lot size based on the NMS stock's average closing price on the primary listing exchange during a one month Evaluation Period. Amended Rule 600(b)(93)(iii) will define the Evaluation Period as (A) all trading days in March for the round lot assigned on the first business day in May and (B) all trading days in September for the round lot assigned on the first business day of November during which the average closing price of an NMS stock on the primary listing exchange shall be measured by the primary listing exchange to determine the round lot for each NMS stock.^[851]

Further, amended Rule 600(b)(93)(iv) will provide time for market participants to implement any reassignments of round lots and provides that the assigned round lots will be operative until the next semiannual date for a new round lot change. Specifically, round lots assigned under Rule 600(b)(93) shall be operative on (A) the first business day of May for the March Evaluation Period and continue through the last business day of October of the calendar year, and (B) the first business day of November for the September Evaluation Period and continue through the last business day of April of the next calendar year. For both round lots and minimum pricing increments, the adopted semiannual assignment dates will be the first business day in May and the first business day of November.

Like amended Rule 612, in amended Rule 600(b)(93)(iv) the Commission is adopting a one-month time period between the conclusion of each Evaluation Period and each operative date ( i.e., the date on which the round lot assignment becomes effective) to provide market participants with time to implement any new round lot assignments. These changes address concerns about operational risks and will help to ensure the orderly implementation of the systems changes necessary to implement the new round lots and minimum pricing increments. Further, market participants will be able to use the one-month implementation period to communicate with investors about any upcoming changes, which will help to minimize potential investor confusion.

These amendments are responsive to commenters who suggested aligning the assignment of round lots and minimum pricing increments.^[852] By aligning the timing for assigning round lot sizes to the timing for assigning minimum pricing increments, there will be fewer modifications to market participants' systems and they will have more time to implement such systems changes. These amendments to the round lot definition address commenter concerns about systemic risk and the risk of market disruptions because market participants will only have to make systems changes two times per year for round lot assignments and tick reassignments rather than twelve and four times per year, respectively.^[853] These amendments to make the assignment of round lots uniform with the assignment of minimum pricing increments will reduce potential confusion for investors because they will only have to understand two round lot assignments per year instead of twelve.

The Commission is not changing the round lot sizes, pricing tiers or the calculation used to assign round lots. As originally adopted, round lots were assigned based on the average closing price of the prior month on the primary listing exchange. Under Rule 600(b)(93)(iii), round lots will be assigned based on the average closing price during a specified month, e.g., March or September on the primary listing exchange.

In the MDI Adopting Release, the Commission explained that assigning a round lot size based on the NMS stock's average closing price on the primary listing exchange for the prior calendar month would strike “an appropriate balance between using accurate, up-to-date pricing information and avoiding the cost and complexity of over-frequent computation and potential round lot reassignment.” ^[854] The Commission also stated that market participants are accustomed to monthly updates, so monitoring for round lot size changes and implementing systems changes to account for the monthly calculation “would not be overly burdensome or costly.” ^[855]

In light of the concerns raised by commenters about potential confusion and potential operational risks due to the fact that round lots and minimum pricing increments would be changed at different times, the Commission reviewed data that compared how often round lot sizes would change if subject to monthly evaluations, as the MDI Rules previously required, to how often they would change if subject to a semiannual evaluation based on one month of prices.^[856] The Commission examined the average closing prices of NMS stocks from January 2019 through September 2023 (6,052 stocks) using ( print page 81674) Bloomberg data. During this time, only 323 NMS stocks moved above or below the round lot tiers of $250.01 per share, $1,000.01 per share, and $10,000.01 per share. If round lot sizes were updated on a monthly basis, there would have been 1,012 total changes over the past five years, for an average of 17 changes per month. If round lot sizes were updated every six months, there would have been 454 total changes over the past five years, for an average of 50 changes every six months.^[857] The data suggests that lengthening the time between assigning round lots will reduce the number of re-assignments. Some of the re-assignments identified using the monthly reassignment were the result of some NMS stocks shifting between round lots sizes from month to month. The shifting of round lot size tiers from month to month may increase the potential for investor confusion. This is similar to the concerns expressed by commenters about having asynchronous round lot and minimum pricing increments changes.

Finally, the Commission is amending Rule 600(b)(93)(v), which previously stated that a round lot for an NMS stock for which the prior calendar month's average closing price is not available is an order for the purchase or sale of 100 shares. This preexisting provision assigned new NMS stocks to a 100-share round lot because such NMS stocks that started trading intra-month did not have an average closing price from the prior calendar month upon which to make a round lot assignment.^[858] As amended, preexisting section (v) will be renumbered as Rule 600(b)(93)(ii) and will be amended to state instead that any security that becomes an NMS stock during an operative period as described under new paragraph (iv) shall be assigned a round lot of 100 shares. This provision is consistent with the preexisting provision. New NMS stocks that begin trading during an operative period will not be able to have an average closing price calculated during an Evaluation Period. Further, this new language will make the round lot definition similar to Rule 612 in identifying those NMS stocks that become NMS stocks during an operative period and have not yet been an NMS stock during an Evaluation Period.

C. Final Rule—Odd-Lot Information

The Commission is adopting an accelerated implementation schedule for odd-lot information definition that is modified from the proposal in order to provide a longer time for market participants to update and modify their systems.^[859] Further, the Commission is adopting amendments to Rule 603(b) under Regulation NMS, as proposed, to require the exclusive SIPs to collect, consolidate and disseminate odd-lot information. Finally, the Commission is adopting amendments to the definition of odd-lot information to include the best odd-lot order, as proposed.

1. Proposed Acceleration of Odd-Lot Information Definition

The Commission proposed to accelerate the implementation of the odd-lot information definition under Rule 600(b)(59) ^[860] by requiring SROs to provide the data necessary to generate odd-lot information to the exclusive SIPs and to require the exclusive SIPs to collect, consolidate, and disseminate odd-lot information.^[861] Specifically, the Commission proposed to amend Rule 603(b) under Regulation NMS to require the national securities exchanges and national securities associations to make all data necessary to generate odd-lot information available to the exclusive SIPs and to require the exclusive SIPs to collect, consolidate, and disseminate odd-lot information.^[862]

The Commission proposed to divide Rule 603(b) into three new subsections to reflect the requirements under Rule 603(b) until the MDI Rules are implemented. As proposed, Rule 603(b)(1) governs the applicability of Rules 603(b)(2) and (b)(3) by describing the compliance dates set forth in the MDI Rules. Proposed Rule 603(b)(2) governs the provision of consolidated market data by competing consolidators and self-aggregators pursuant to the decentralized consolidation model set forth in the MDI Rules. Proposed Rule 603(b)(3) governs the provision of NMS information by the exclusive SIPs, including the new requirements regarding the collection, consolidation, and dissemination of odd-lot information.

Therefore, proposed Rule 603(b)(1)(i) states that compliance with Rule 603(b)(3) is required until the date indicated by the Commission in any order approving amendments to the effective national market system plan(s) to effectuate a cessation of the operations of the plan processors that disseminate consolidated information regarding NMS stocks. Proposed Rule 603(b)(1)(ii) states that compliance with proposed Rule 603(b)(2) is required 180 calendar days from the date of the Commission's approval of the amendments to the effective national market system plan(s) required under rule 614(e).^[863]

Preexisting Rule 603(b), which imposes requirements on the dissemination of consolidated market data by national securities exchanges and national securities associations, was proposed to be renumbered as Rule 603(b)(2). Proposed Rule 603(b)(3) requires every national securities exchange on which an NMS stock is traded and national securities association to act jointly pursuant to one or more effective NMS plans to disseminate consolidated information, including a national best bid and national best offer and odd-lot information, on quotations for and transactions in NMS stocks, and the effective plan or plans must provide for the dissemination of all consolidated information for an individual NMS stock through a single plan processor. The single plan processor must represent quotation sizes in such consolidated information in terms of the number of shares, rounded down to the nearest multiple of a round lot. ( print page 81675) Additionally, every national securities exchange on which an NMS stock is traded and national securities association shall make available to a plan processor all data necessary to generate odd-lot information.

The Commission did not receive any comments on proposed Rule 603(b)(1), which added the compliance dates already adopted in the MDI Rules, or the renumbering of current Rule 603(b) as Rule 603(b)(2), and is adopting these changes, as proposed. The Commission discusses proposed Rule 603(b)(3) ^[864] herein, which the Commission is adopting as proposed.

a. General Comments and Response

The Commission received comments in support of the proposed acceleration of the implementation of the odd-lot information consistent with the MDI Rules from individuals, firms, exchanges, and associations.^[865] Generally, individual commenters supported the proposed acceleration of the implementation of the odd-lot information definition because it would increase transparency and “because odd-lots represent the majority of trades.” ^[866] Certain other market participants also supported the proposed acceleration of the odd-lot information definition for similar reasons, stating greater transparency would enhance price discovery, improve decision-making with respect to order routing, and reduce spreads.^[867] Commenters further supported the acceleration of odd-lot information requirements because it would improve the quality of SIP data and “make more data accessible to investors at lower prices by introducing competition into an otherwise monopolistic data market.” ^[868]

Certain market participants stated that accelerating the implementation of odd-lot information is not necessary and overly burdensome given the other components of the proposal.^[869] One commenter supported the acceleration of the MDI Rules with respect to odd-lots but stated that “[o]ver the long run, eliminating round lots altogether . . . may be a better resolution.” ^[870] In contrast, two commenters opposed accelerating the implementation of the odd-lot information definition, stating that it would increase the amount of development work required of market participants and therefore “delay the additional transparency that could be afforded by solely modifying the round lot definition.” ^[871] Additional commenters supported acceleration of the revised round lot definition but not the odd-lot information definition, without providing a specific reason for the distinction, and generally urged the Commission to revisit comments on odd-lot dissemination.^[872]

The Commission is adopting proposed Rule 603(b)(3) with respect to the provision of odd-lot information, as proposed. The provision of odd-lot information within the national market system will provide significant benefits to investors by increasing transparency about better priced orders that are available in the market. The round lot definition will not provide transparency about those orders that remain odd-lots, i.e., odd-lot quotation information. As discussed above, only those NMS stocks that are priced greater than $250 will be assigned a smaller round lot size. These NMS stocks may still have odd-lots available at prices better than the round lot price. Further, the odd-lot information definition will provide transparency about better priced odd-lot orders for all NMS stocks.

While some commenters suggested that the Commission consider alternative sequencing of the proposal and expressed concern regarding the acceleration of the implementation of the odd-lot information definition: (1) ahead of other elements of MDI Rules, (2) simultaneously with minimum pricing increments, and (3) simultaneously with the changes to the round lot definition,^[873] investors and market participants should be provided with the benefits of odd-lot information sooner than the originally adopted implementation schedule in the MDI Adopting Release,^[874] and the adoption of the acceleration of the odd-lot information requirements should occur contemporaneously with adoption of the other requirements outlined in the Proposing Release. Timelier implementation of the odd-lot information definition allows investors to benefit from greater transparency and accessibility of better priced orders and improved execution quality; waiting to implement the definition would delay these benefits for market participants.^[875] Further, the implementation of the MDI Rules continues, although on a delayed basis as compared to the adopted implementation schedule. The implementation of odd-lot information on an accelerated schedule will not impede the further implementation of the remaining MDI Rules.^[876]

Apart from comments regarding sequencing, certain industry participants expressed concern that adding odd-lot information, including the BOLO, to the exclusive SIPs will increase message traffic and therefore increase costs.^[877] One commenter stated that the proposal would add odd-lot information to exclusive SIP data without disclosing how much the SROs would charge retail investors and broker-dealers for the new data fields.^[878] The commenter, while recommending that the Commission proceed with implementation of the MDI Rules and governance changes, stated that exclusive SIP data fees are “complex and often opaque” and that while SIP data costs are charged to retail customers on a per investor basis, the cost to produce SIP data does not scale on a per investor basis.^[879]

( print page 81676)

While the addition of odd-lot quotation information to the exclusive SIPs will increase the number of messages that the exclusive SIPs will have to collect and consolidate and the number of messages that will be made available to market participants, the exclusive SIPs and market participants can handle such increased message traffic. As discussed in the Proposing Release, the systems used by exchanges and other market participants can handle many levels of data messages at extreme low latency and should be able to adjust to the addition of odd-lot quotation information.^[880] Further, the exclusive SIPs have been discussing the addition of odd-lot quotation information to SIP data for several years ^[881] and should be able to make the necessary adjustments to their processors in the adopted timeframe.^[882] To the extent that increased message traffic increases costs for the exclusive SIPs, the Commission estimated those costs in the Proposing Release, which are discussed below.^[883]

The Commission discussed the potential for new fees related to consolidated market data, which includes odd-lot information, in the MDI Adopting Release.^[884] Fees imposed by the exclusive SIPs are subject to the Exchange Act and the rules thereunder. The Commission discussed the statutory standards for any potential fees for consolidated market data, which includes odd-lot information, in the MDI Adopting Release.^[885] Specifically, the statutory standards that apply to fees proposed by the effective market system plan(s) include section 11A(c)(1)(C)-(D) of the Exchange Act and rule 603(a) under Regulation NMS. Proposed fees must be fair and reasonable and not unreasonably discriminatory. As discussed in the MDI Adopting Release, the Commission has historically assessed fees for data, such as the data content underlying consolidated market data of which odd-lot information is a part, using a reasonably related to cost standard.^[886] To the extent that the exclusive SIPs propose to increase SIP data fees because of the addition of odd-lot information, any such new proposed fees must be filed with the Commission pursuant to rule 608, published for public comment and approved by the Commission before they can take effect.^[887] Further, as discussed in the Proposing Release, expediting the inclusion of odd-lot information to the exclusive SIPs can provide additional competition to the segment of the market that subscribes to proprietary data with odd-lot information for use in visual display settings.^[888]

One commenter requested confirmation that exchange proprietary data feeds could be used to provide odd-lot information to the exclusive SIPs consistent with statements in the MDI Adopting Release that odd-lot information could be made available to competing consolidators and self-aggregators (under the decentralized consolidation model) using “existing proprietary data feeds, a combination of proprietary data feeds, or a newly developed consolidated market data feed.” ^[889] As previously stated by the Commission, the use of proprietary data feeds for delivering odd-lot information is consistent with the MDI Rules in the context of the decentralized consolidation model.^[890] The use of proprietary data feeds for purposes of providing data to the exclusive SIPs may require consideration by the exclusive SIPs and the Operating Committees of the technical specifications that may be necessary for purposes of collecting and distributing such information to the exclusive SIPs.^[891]

One commenter stated that “disseminating odd lot quotes on the SIP could lead investors to expect prices that are not available.” ^[892] Odd-lot quotation information will reflect actual prices of actual orders that have been submitted by market participants. This information will provide investors with valuable information about the prices at which other market participants are willing to trade. However, as with any change, market participants may have to educate investors as to the existence of odd-lot quotation information on the exclusive SIPs.

2. Proposed Amendment to Odd-Lot Information Definition for Best Odd-Lot Orders

The odd-lot information definition includes (1) odd-lot transactions,^[893] and (2) odd-lots at a price greater than or equal to the national best bid and less than or equal to the national best offer, aggregated at each price level at each national securities exchange and national securities association.^[894] Accordingly, once implemented, information on odd-lot orders priced better than the NBBO will be included in the NMS information that is made available to market participants within the national market system.

The Commission proposed to amend the definition of odd-lot information to include a BOLO as new Rule 600(b)(59)(iii). Specifically, for each NMS stock, the best odd-lot order to buy would mean the highest priced odd-lot order to buy that is priced higher than the national best bid, and the best odd-lot order to sell would mean the lowest priced odd-lot order to sell that is priced lower than the national best offer. Similar to the definition of the NBBO, in the event that two or more national securities exchanges or associations provide odd-lot orders at the same price, the exclusive SIPs, competing consolidators and self-aggregators would be required to determine the best odd-lot order by ranking all such identical odd-lot buy orders or odd-lot sell orders (as the case may be) first by size (giving the highest ranking to the odd-lot buy order or odd-lot sell order associated with the largest size), and then by time (giving the highest ranking to the odd-lot buy order or odd-lot sell order received first in time).^[895]

( print page 81677)

a. General Comments and Response

The Commission received comments supporting the requirement to identify the BOLO from individuals ^[896] and market participants.^[897] As stated above, many individual commenters supported publishing odd-lot information, including the BOLO, in the exclusive SIPs in order to further transparency and aid investors in making more informed trading decisions.^[898] Similarly, certain other commenters viewed the additional information as a useful measure for all investors and their agents to better evaluate the best prices in NMS stocks and would enhance the ability to trade and route orders effectively as well as facilitate best execution.^[899] Certain market participants that support the publication of the BOLO cautioned against requiring broker-dealers to use the metric as a benchmark against execution quality.^[900] One of the commenters requested guidance regarding whether “market participants would be expected to clear the best odd-lot orders as part of ISO routing, notwithstanding that the odd-lot orders are not protected quotations.” ^[901] Finally, a number of individual commenters that expressed support for including odd-lot information in the exclusive SIPs urged the Commission to include “odd-lot transactions” in the NBBO, citing the fact that odd-lot transactions are now a majority of the market and most prevalent among retail investors.^[902]

The Commission also received comments opposing the requirement to identify the BOLO, stating the information would create ambiguity or investor confusion.^[903] Some of these commenters stated that confusion would arise from the fact that a customer would expect to receive the BOLO price even though it is not a protected quote.^[904] One commenter stated that the round lot and odd-lot requirements outlined in the MDI Adopting Release sufficiently provide increased transparency while minimizing confusion.^[905] One commenter stated that the transparency of odd-lot orders may be “gameable” such that a limit order to buy one share could change all execution quality benchmarks for brokers.^[906]

As discussed below, the Commission is adopting the amendment to odd-lot information to include a BOLO, as proposed.^[907] While initially market participants may need to explain to their customers about the existence of the BOLO, this new data element is not expected to confuse investors. Investors are already able to see odd-lot transaction information and, upon implementation, the BOLO will provide them with information about the best odd-lot quotations. The BOLO is an informative, useful piece of information for investors to use when considering prices related to NMS stocks. Among other uses, the BOLO may serve as the benchmark execution price for execution quality statistics in rule 605 reports that measure price improvement relative to the best available displayed price.^[908] However, in rule 605 reports, the price improvement statistics relative to the best available displayed price will be a supplement to, rather than a replacement for, price improvement statistics relative to the NBBO.^[909] Further, rule 605 reports present information, including price improvement, in order size categories based on notional order size and whether the order is for a fractional share, odd-lot, or round lot.^[910] These provisions provide more context for price improvement statistics that consider the best available odd-lot price and thus mitigate concerns about “gaming” execution quality reports. Further, rule 605 reports represent monthly, aggregated execution quality statistics and thereby dilute the effect of an odd-lot price at one specific point in time.

Several commenters stated that odd-lot quotations should be included in the NBBO.^[911] Odd-lot quotations are currently included in the calculation of the NBBO when they are aggregated into round lots for purposes of providing an exchange's best bids and offers to the exclusive SIPs.^[912] Pursuant to Regulation NMS, bids and offers can only be in round lot sizes,^[913] therefore, the NBBO can only be reflected in round lot sizes. The round lot definition as adopted in the MDI Rules, will categorize certain orders that are currently odd-lots as round lots based on their price, and as a result, quotations and orders that were previously defined as odd-lots will be eligible to establish the NBBO.^[914] Orders that remain odd-lots under the new definitions are not bids and offers and therefore do not independently contribute to establishing the NBBO.

The identification of a BOLO will assist investors in assessing the current state of the market for individual NMS securities. The BOLO will reflect the best odd-lot price consolidated across all national securities exchanges and national securities associations and is therefore consistent with the goals set forth in section 11A of the Exchange Act because it will make information about quotations in NMS stocks available to broker-dealers and investors and will enhance the usefulness of odd-lot information. Although odd-lot liquidity better than the NBBO often resides at multiple price levels and information ( print page 81678) reflecting all of these odd-lot prices is already included in the definition of odd-lot information, requiring the identification and dissemination of the best of all such inside the NBBO odd-lots on both the buy and sell side will help inform market participants of the best possible prices at which their orders (or their customers' orders) could—in whole or in part—be executed. The identification and dissemination of the price, size, and market of the best odd-lot orders will also enhance the ability of market participants to make effective trading and order routing decisions using NMS information and facilitate best execution. One commenter requested guidance on how to treat odd-lot orders for order routing purposes.^[915] The Commission stated in the MDI Adopting Release that odd-lot information may be relevant to a broker-dealer's ability to analyze and achieve best execution.^[916] As the Commission stated in the MDI Adopting Release, while odd-lot information, which will now include the BOLO, “may be relevant to broker-dealers' best execution analyses and, in many cases, will facilitate the ability of broker-dealers to achieve best execution for their customer orders, the Commission . . . is not setting forth minimum data elements needed to achieve best execution and does not expect that all market participants will need to purchase the most comprehensive or fastest consolidated market data product available.” ^[917]

D. Display of Round Lots and Odd-Lot Information

Currently, the exclusive SIPs represent quotation sizes in SIP data in terms of number of round lots. For example, for an NMS stock for which a round lot is 100 shares, a bid for 200 shares of that stock would be represented as a bid for “2” in SIP data.

Under the MDI Rules, competing consolidators are required to represent a round lot as the number of shares rounded down to the nearest multiple of a round lot.^[918] For example, a 275-share buy order at $25.00 for a stock with a 100-share round lot would be disseminated as “200.” ^[919] Accelerated implementation of the round lot definition will require the exclusive SIPs to revise their systems to reflect this change. Therefore, in proposed Rule 603(b)(3), the Commission proposed to require each exclusive SIP to, among other things, represent quotation sizes in consolidated information in terms of the number of shares, rounded down to the nearest multiple of a round lot.

1. Comments and Response

The Commission received comments on the display requirement adopted as part of the MDI Rules.^[920] One commenter stated that, for mixed lot orders, the total number of shares—both the round lot and odd-lot portions—should be included as consolidated market data.^[921] Another commenter stated that, by requiring that the number of shares at each price level be displayed at the round lot level, the display requirement would make consolidated market data less useful and less competitive relative to exchange proprietary data feeds, which display the total number of shares at a price level.^[922] The commenter also stated that basing quotations on the number of shares rounded to the nearest round lot (rather than based on round lots) could result in operational risk and investor confusion.^[923]

As stated above, the display requirement was adopted as part of the MDI Rules. The Commission discussed the reasons for adopting the display requirement in the MDI Adopting Release.^[924] However, in response to the commenter that suggested the inclusion of both the round lot and odd-lot portions of mixed lot orders,^[925] since odd-lot information will be disseminated by the exclusive SIPs,^[926] the total number of shares of odd-lots priced at or better than the NBBO will be included in SIP data. Through the definition of odd-lot information, the MDI Rules require odd-lots priced at or better than the NBBO to be represented in the aggregate at each price level at each national securities exchange or national securities association rather than on an order-by-order basis.^[927]

In response to the commenter that stated that displaying quotations in round lot sizes would undermine the usability and competitiveness of consolidated market data as compared to exchange proprietary data feeds,^[928] the Commission described the reason for displaying quotations in round lot sizes in the MDI Adopting Release, which remains relevant to the implementation of the round lot definition by the exclusive SIPs.^[929] Further, the Commission recognized in the MDI Adopting Release that different market participants need differing amounts of information to meet different trading objectives.^[930] The MDI Rules are intended to reduce information asymmetries between users of proprietary feeds and users of SIP data by enhancing the content of information made available in the national market system to enable market participants to trade efficiently and competitively.^[931] For example, the inclusion of odd-lot quotations and the round lot definition will allow investors to see, and more readily access, better priced orders in smaller sizes.^[932] As discussed above, the total number of shares of odd-lots priced at or better than the NBBO will be included in data that is made available by the exclusive SIPs. Certain market participants may choose to continue to purchase exchange proprietary data products if ( print page 81679) they require more granular information about odd-lots. Here, the Commission's amendment is limited in reach—it extends the MDI Rules' display requirement to the exclusive SIPs as part of the accelerated implementation of the round lot and odd-lot information definitions, changing only the entity responsible for displaying this information—from competing consolidators to the exclusive SIPs. This change by itself should not impact the utility or competitiveness of consolidated market data. With respect to the commenter's concerns that the display requirement would result in operational risk and investor confusion,^[933] the required display of mixed lot orders rounded down to the nearest multiple of a round lot was previously adopted in the MDI Rules for competing consolidators.^[934] In the MDI Adopting Release, the Commission stated that the preexisting convention of displaying the number of round lots “could be confusing” when applied to the MDI Rules' round lot definition, which, once implemented, will assign varying round lot sizes to individual NMS stocks based on stock price.^[935] Further, the Commission explained that rounding down to the nearest round lot multiple would ensure that the elements of core data would reflect orders of meaningful size, and that for the NBBO, rounding down would help ensure that the protected portion of the order is clearly represented, to address concerns about impacts on investor confidence and investor confusion that potentially could result from the display of unprotected size at the NBBO.^[936] The Commission also stated that odd-lots priced at or better than the NBBO, including the odd-lot portion of a mixed lot order at the NBBO, will be included in core data.^[937] The Commission is extending this display requirement to exclusive SIPs as part of the accelerated implementation of the round lot and odd-lot information definitions. There should not be any new operational risks or investor confusion arising from this change because only the entity responsible for displaying the information is changing.

The Commission is adopting Rule 603(b)(3) as proposed.

E. MDI Rules Implementation

Some commenters discussed the benefits of the MDI Rules ^[938] and expressed concern that the accelerated implementation of the round lot and odd-lot information definitions could indefinitely delay implementation of the remainder of the MDI Rules,^[939] stating that these proposed changes were not a substitute for implementation of all of the MDI Rules.^[940] Some commenters suggested that the changes proposed in the Regulation NMS Proposal should be postponed until the full implementation of the MDI Rules.^[941] Some commenters also raised concerns that the Commission was separately accelerating the implementation of the round lot and the odd-lot information definitions apart from the other components of the MDI Rules.^[942] One commenter stated that “full implementation of the MDI Rules” is “a necessary first step for any significant changes to market structure,” and whether or not fully implemented, “an indispensable component of the `baseline' against which this proposal must be measured and justified.” ^[943]

Despite delays in the process,^[944] the implementation of the MDI Rules continues to be a Commission priority. In September 2023, the Commission issued an amended order directing the SROs to file a proposed new single national market system plan regarding consolidated equity market data.^[945] Consolidation of the multiple Equity Data Plans into a single, new equity data plan would modernize the governance of the existing Equity Data Plans.^[946]

The Commission disagrees with comments that recommended delaying implementation of the Regulation NMS Proposal until the full implementation of the MDI Rules.^[947] Due to the delayed implementation of the MDI Rules, the Commission proposed to accelerate the implementation of the round lot and odd-lot definitions because these definitions can be efficiently implemented under the current exclusive SIP model.^[948] Not doing so would unnecessarily delay the benefits of the round lot and odd-lot information definitions to investors and market participants. One goal in adopting the round lot definition was to increase transparency about the better priced orders available in the market by allowing each exchange's BBO and the NBBO for an NMS stock to be based upon smaller, potentially better priced orders, which will also improve market participants' ability to access these orders.^[949] Waiting to implement the round lot definition would delay these benefits for market participants. Further, full implementation of the MDI Rules will not address the issues discussed above related to the minimum pricing increments for certain NMS stocks, the access fee caps for protected quotations and exchange fees.^[950] Finally, as discussed below, the eventual implementation of the MDI Rules is part of the baseline for the amendments to Rules 610 and 612.^[951]

VI. Compliance Dates

The Commission proposed different compliance dates for the individual proposed rule amendments. As discussed below in the relevant sections, the Commission received several comments on the proposed compliance dates.^[952] The Commission is adopting compliance dates that are longer than proposed.^[953]

( print page 81680)

Specifically, for the reasons discussed below, the amendments adopted herein will have the following compliance dates:

Rules 600(b)(89)(i)(F) and 612: The first business day of November 2025.

Rules 600(b)(89)(iv), 600(b)(93) and 603(b)(3) (with respect to the requirement that the effective national market system plans to disseminate consolidated information shall provide for the dissemination of all consolidated information for an individual NMS stock through an exclusive SIP, and that the exclusive SIPs must represent quotation sizes in such consolidated information in terms of the number of shares, rounded down to the nearest multiple of a round lot): The first business day of November 2025.

Rule 610: The first business day of November 2025.

Rules 600(b)(69) and 603(b)(3) (with respect to the requirement that every national securities exchange on which an NMS stock is traded and national securities association must make available to the exclusive SIPs all data necessary to generate odd-lot information, and the collection, consolidation and dissemination of odd-lot information by the exclusive SIPs): The first business day of May 2026.

A. Final Rule 612 Compliance Date

In the Proposing Release, the Commission detailed a staggered implementation period that would cover five quarters for the proposed amendments to Rule 612. The Commission proposed the implementation period to provide the market and market participants with time to implement the proposed variable minimum pricing increments as well as to facilitate an orderly transition. The adopted amendments to Rule 612 are modified from those that were proposed. Accordingly, the Commission is adopting a modified implementation schedule and compliance date.

One commenter suggested that the Commission direct the SROs to develop a phased implementation schedule for the reduced minimum pricing increment, “[c]onsistent with the prior implementation of decimalization” and described several steps to be considered in an implementation plan.^[954] Because the amendments to Rule 612 have been modified to require the addition of only one minimum pricing increment, the compliance date discussed below will provide the SROs and other market participants sufficient time to implement the changes and a further phased implementation schedule is unnecessary. The move to decimalization in 2000-2001 was more complicated as it involved changes to SRO rules that specified several different increments that were fractions of a dollar and required systems changes to accommodate decimals instead of fractions.^[955] The amendment to Rule 612 will be less complicated because it will not require changes to SRO rules and the systems that are in place today, while needing updates, already can accommodate sub-penny increments. Further, the amendments adopted require less changes than what were proposed.

The amendments to Rule 612 will require the primary listing exchanges to evaluate each NMS stock during an Evaluation Period to calculate their TWAQS and the primary listing exchanges will have to provide a minimum pricing increment indicator to the exclusive SIPs for dissemination. The Evaluation Periods will be conducted on a semiannual basis, rather than a quarterly basis as proposed. Further, the amendments will require market participants to update and modify their systems, such as order handling and processing systems, to accommodate the one new minimum pricing increment, rather than the three new minimum pricing increments that were proposed. Market participants' systems will have to be updated and modified to accommodate the assignment of minimum pricing increments for quotes and orders priced $1.00 or greater to each NMS stock on a semiannual basis, rather than a quarterly basis as proposed. The systems updates necessary for implementing the amendment to Rule 612 are less burdensome than what was proposed.

The Commission has considered the systems changes that will be necessary to implement the amendments to Rules 600(b)(89)(i)(F) and 612 and is assigning the compliance date for amended Rule 612 to be the first business day of November 2025. In determining this compliance date, the Commission considered the systems changes that must be completed and the date by which the TWAQS can be calculated during an Evaluation Period after the systems changes could be completed. This compliance date is sufficient for facilitating an orderly transition to the amended Rule 612.

B. Final Rule 610 Compliance Date

The Commission proposed that compliance with the amendments to Rule 610 would have occurred during the implementation period proposed for the amendments to Rule 612, discussed above.^[956] The proposed access fee caps would have also had a staggered implementation to reflect the proposed implementation of the proposed minimum pricing increments. Specifically, compliance with the proposed 10 mils access fee cap would have been at the same as the proposed $0.005 minimum pricing increment, and compliance with the proposed 5 mils access fee cap would have been at the same time as the proposed $0.001 minimum pricing increment.^[957]

As described above, the Commission has modified amendment to Rule 612 and has also modified the compliance date for the Rule 612 amendments. Further, the Commission has modified the amendment to Rule 610 such that the access fee cap structure is retained and only the level of the caps has been reduced. The Commission is reducing the access fee caps under Rule 610 to accommodate the new pricing increments as well as to address distortions in the market associated with fee and rebate models.^[958] Accordingly, the Commission is modifying the compliance date for the final Rule 610 amendments to coincide with the compliance date for Rule 612. The national securities exchanges will have to file proposed rule changes with the Commission pursuant to section 19(b) and rule 19b-4 ^[959] to adjust their fee schedules to reflect the new lower access fee caps. Further, the national securities exchanges will have to file proposed rule changes to adjust any fee or rebate that is not determinable at the time of execution.

The Commission is adopting a first business day of November 2025 compliance date for the amendments to Rule 610. This date provides the national securities exchanges with time to assess their fee schedules and file proposed rule changes pursuant to section 19(b) and rule 19b-4 to adjust ( print page 81681) their fee schedules in order to comply with Rule 610 as amended.

C. Final Compliance Date for Round Lot and Odd-Lot Information

In the Proposing Release, the Commission proposed to require compliance with the odd-lot information and round lot definitions, including, as required under proposed Rule 603(b), that national securities exchanges and associations make the data available to the exclusive SIPs, that the exclusive SIPs represent quotation sizes in consolidated information in terms of the number of shares, rounded down to the nearest multiple of a round lot, and that the exclusive SIPs disseminate odd-lot information as defined in Rule 600(b)(69) ^[960] 90 days from Federal Register publication of any Commission adoption of an earlier implementation of the round lot and odd-lot information definitions.^[961] The Commission explained that the proposed compliance date would significantly move up the date by which round lot and odd-lot information would be more widely available in the national market system.^[962]

Several commenters raised concerns about the proposed compliance date, stating that 90 days was not enough time to implement the round lot and odd-lot information definitions.^[963] In stating that a longer timeframe was needed, some commenters stated their views of the challenges entailed in implementing the changes.^[964] One commenter stated, “[t]he technical and operational requirements to implement the definition changes will necessitate distinct product changes in the systems of literally hundreds of exchanges, vendors, and subscribers, each with different development priorities and system capabilities.” ^[965] The commenter stated that 90 days would not be enough time for the exclusive SIPs, data vendors and subscribers to accommodate the changes, and cautioned that “hastily made changes or missed delivery dates could result in not just a failure to provide odd-lot quotation data but also disrupt the flow of other core data to the market.” ^[966] The commenter urged the Commission not to adopt the 90-day compliance timeframe and instead, after adoption of the Proposing Release, allow time for industry consultation to develop an implementation plan.^[967] Two commenters, while supporting the odd-lot information definition adopted in the MDI Rules, recommended only implementing the BOLO due to the complexity and time it would take to implement the odd-lot information definition by many market participants.^[968]

Three commenters suggested an implementation timeframe of at least one year.^[969] One commenter explained that the changes to the round lot definition would require programming changes by the exclusive SIPs and the market participants that receive SIP data, as well as testing of the changes at the exchanges, exclusive SIPs and customer levels,^[970] and that it would likely take longer than one year for the exclusive SIPs and exchanges to implement the proposed odd-lot changes.^[971] The Operating Committees for the Equity Data Plans stated that the implementation timeframe for the exclusive SIPs would likely extend beyond one year due to, among other things, “the time needed for system design, [to] procure necessary equipment, and accommodate industry testing.” ^[972] Another commenter stated that the proposed 90-day timeframe was too aggressive, did not consider “technical realities,” and suggested an implementation period of at least one year.^[973]

In light of the comments, the Commission is modifying the compliance date for the round lot and odd-lot information definitions. For implementation of the round lot definition ^[974] and the round lot indicator,^[975] the compliance date will be the first business day of November 2025. The Commission calculated this deadline based on two main factors. First, the compliance date is approximately 12 months after the effective date, which is consistent with what commenters suggested was necessary for systems changes and testing. Second, the compliance date provides sufficient time for any exchanges that have defined round lots in their rules to file proposed rule changes pursuant to section 19(b) of the Exchange Act ^[976] and rule 19b-4 ^[977] thereunder to reflect the new round lot definition.^[978]

The compliance date for the odd-lot information definition ^[979] and Rule 603(b)(3) (with respect to the requirement that every national securities exchange on which an NMS stock is traded and national securities association must make available to the exclusive SIPs all data necessary to generate odd-lot information, and the collection, consolidation and dissemination of odd-lot information by the exclusive SIPs) will be the first business day of May 2026, which is approximately 18 months after the effective date of the Adopting Release. The Commission is providing a modified compliance date for the odd-lot information definition, consistent with what industry comment suggested was necessary for technical and operational requirements,^[980] due to several factors. First, the exclusive SIPs will likely have to make more changes to their systems to accommodate the odd-lot information definition than to implement the round lot definition. Specifically, the exclusive SIPs will need to collect more data, consolidate it, and disseminate it as odd-lot information. In addition, the exclusive SIPs will need to calculate and disseminate the BOLO. The Commission continues to believe that both the changes to the odd-lot information definition and the dissemination of the BOLO are independently important, and the additional time allotted to comply with the odd-lot information definition addresses the concerns from commenters regarding the complexity or operational risks that may arise with making odd-lot information changes in a compressed timeline. Second, the effective national market system plan(s) may also need to assess whether plan amendments will be necessary to conform such plans to the odd-lot information definition, and to file any such amendments with the Commission ( print page 81682) pursuant to rule 608. Finally, market participants may need to update their systems that accept SIP data to reflect odd-lot information.

Accordingly, extending the compliance deadlines for the implementation of the round lot and odd-lot information definitions will address the concerns raised by commenters and provide additional time for market participants to make the changes necessary to implement the definitions.

VII. Economic Analysis

A. Introduction

The most common method of trading in NMS stocks by registered exchanges today is the limit order book matching system, a mechanism that securities exchanges use to bring together orders of multiple buyers and sellers of securities and have those orders interact. It acts as a central hub where participants' priced buy and sell orders can be ranked, displayed, and matched based on programmed rules established by the providing registered exchange. As such, the limit order book matching system facilitates efficient and competitive markets.^[981]

Imagine an order book in which a buyer's or seller's order could be displayed at any pricing increment, no matter how small. In this scenario, assume a liquidity provider wants to buy a stock. The provider sees the book with the prices at which others are willing to buy. Because in this hypothetical market there are no restrictions on an entry price point, the liquidity provider can jump ahead of those other providers by offering to buy at a price that is infinitesimally higher. This is what is known as “pennying.” ^[982] The problem with pennying is that it creates a disincentive for liquidity providers to post buy or sell orders, because they know that a second trader can step ahead with an infinitesimally better price. This leads to lower priced offers to buy and higher priced offers to sell—namely a wider quoted bid-ask spread.

Recognizing this market failure, the Commission in 2005 adopted ^[983] a market-wide requirement that venues could not display, rank, or accept orders in increments less than a penny.^[984] The 2005 adoption of Rule 612 limited the scope of pennying, but it did so at the inevitable cost of introducing a floor, namely one cent, below which the quoted bid-ask spread could not fall.

Though a minimum tick is necessary, placing a floor on the spread introduces distortions into the market. The price of liquidity will be artificially high for some stocks, leading to a surplus, similar to a goods market for which prices were artificially high. This creates rents which accrue to some market participants at the expense of others. By reducing the minimum pricing increment for a defined subset of stocks, the adopted amendments to Rule 612 free the price of liquidity from its current constraint, allowing it to approach its natural level. At the same time, as described in greater detail below, the adopted amendments maintain a minimum (but smaller) pricing increment necessary for the proper functioning of financial markets' limit order books.

Freeing the spread from the binding constraint of one penny will bring a number of benefits, including lower transaction costs. For some stocks currently constrained at a penny, the spread will, under the amended rules, at times be a half-penny, a substantial reduction in the quoted price of accessing liquidity. This reduction, while beneficial, brings into the spotlight the cap on the access fee, which has been 0.30 cents. Absent a reduction in the maximum access fee, a round-trip buy and sell for stocks quoted at the new half-penny tick would require paying more in fees (0.60 cents) than in the spread itself (0.50 cents).

The practice of charging at or near the access fee cap has persisted over time. Regulation NMS establishes the NBBO. Because the NBBO is protected,^[985] many exchanges charge the maximum amount allowed to access the quote. This allows the exchange to subsidize liquidity providers with a rebate, reducing spreads (to acquire more volume, due to traders' need to access the protected quote). While the quoted spread may be lower, the cost to investors is not; this is because gains from the lower spread are counteracted by the access fee. On the other hand, the high access fee and rebate can lead to a loss of price coherence when the spread is less than twice the fee. For stocks that remain tick constrained, as some may, the rebate distorts the supply of liquidity. Finally, fees and rebates that are high as a percentage of the quoted spread introduce complexity, and potential conflicts of interest. Lowering the access fee to 10 mils restores price coherence and alleviates these costs.

The Commission is also requiring that these fees and rebates be determinable at the time of trade execution. Opacity and complexities in current exchange fees and rebates make these more distortive than otherwise.^[986] With new Rule 610(d), the Commission is taking an incremental step in ameliorating the opacity in fees and rebates, reducing information asymmetries and lessening the potential for agency conflict between brokers and their customers.

Finally, the Commission has accelerated the implementation of the round lot, and odd-lot information definitions while providing more time for the necessary systems changes to implement the definitional changes than what was proposed. These amendments will allow the benefits of these rules to accrue to market participants in a timely manner.

Below, we explain why these amendments increase efficiency and competition and bring benefits that will accrue to the broad range of participants in U.S. equity markets. We also discuss the costs of these amendments. The Commission has considered the economic effects of the amendments and, wherever possible, the Commission has quantified the likely economic effects of the amendments.^[987] The Commission is providing both a qualitative assessment and quantified estimates of the potential economic ( print page 81683) effects of the amendments where feasible. The Commission incorporated data and other information to assist it in the analysis of the economic effects of the amendments. However, as explained in more detail below, the Commission is unable to quantify certain economic effects because the Commission does not have, and in certain cases cannot reasonably obtain, data that may inform the Commission on certain economic effects. Further, even in cases where the Commission has data, it is not practicable to quantify certain economic effects due to the number and type of assumptions necessary, which render any such quantification unreliable. Our inability to quantify certain costs, benefits, and effects does not imply that such costs, benefits, or effects are less significant.

B. Broad Economic Considerations

1. Liquidity and Spread

A key component of market liquidity is the limit order book. Liquidity providers submit limit orders to buy (“bid”) and sell (“ask”) stock at specified prices and quantities. Liquidity demanders trade against these limit orders. The quoted (bid-ask) spread for a stock is the difference between the lowest displayed ask price and the highest displayed bid price.^[988] As discussed in the Proposing Release, standard economic theory suggests that liquidity providers in a competitive market will compete to provide liquidity until the spread— i.e., their compensation for providing liquidity—is equal to the break-even point given the costs of liquidity provision.^[989] Absent fees, rebates, and a minimum pricing increment, this break-even point for liquidity provision represents the lowest bid-ask spread at which liquidity providers (as a whole) are willing to provide liquidity (hereinafter “economic spread”).^[990]

2. Economics of Minimum Pricing Increments

When a market has a minimum pricing increment (hereafter “tick sizes” or just “ticks”), liquidity providers quote bid and ask prices that are discrete whole number multiples of that tick. For example, if the tick is a penny, then a liquidity provider quotes prices that are a multiple of a penny, such as $10.00 or $10.01, but not $10.015. There may, however, be a liquidity provider willing to quote an ask of $10.015 and a bid of $10.005. Were this liquidity provider to be allowed to do so, the stock would have a spread $0.01 ( i.e., the difference between the lowest ask price and bid price). However, in the presence of the $0.01 tick, liquidity providers will quote at the best feasible ask price above $10.015, which is $10.02, and the best feasible bid price below $10.005, which is $10.00.^[991] Consequently, the stock's quoted spread would be $0.02 instead of $0.01, twice as wide than it would otherwise be.

Tick sizes present an economic tradeoff. As discussed in the Proposing Release, in determining what tick size is optimal for any given stock, there is a tradeoff between price competition on one hand, and incentives for liquidity provision on the other.^[992] A smaller tick allows liquidity providers to better compete on price which can lead to narrower spreads, reducing costs for investors. On the other hand, a smaller tick can also lead to pennying. Pennying increases adverse selection costs for slower liquidity providers by making it more likely that they trade when prices are moving in an unfavorable direction relative to their positions.^[993] To compensate for these costs, liquidity providers may post less aggressive quotes—lower bid prices and higher ask prices—resulting in a wider quoted spread and worse liquidity.^[994] Both price competition and adverse selection from pennying lie on a continuum.^[995] As explained in infra section VII.D.1, the degree to which pennying versus price competition dominates in determining whether increasing the tick will improve market quality depends on the relation between the tick and the spread. The greater the tick is in relation to the spread, the greater the effect of price competition, and the lower the risk of pennying.^[996] Accordingly, the Commission defines a stock to be tick-constrained if there is a reasonable probability that the stock would otherwise trade with a spread less than the tick size in the course of normal trading, were it allowed to do so, or one for which the tick is a substantial portion of the quoted spread.^[997] That is, ( print page 81684) while tick constrained stocks are not the only ones to potentially benefit from a reduction in the tick size, they are the ones most clearly likely to do so.^[998]

Benefits from a reduction in the tick size come in the form of higher market quality and lower transaction costs to investors. As explained above, relaxing the tick constraint (the price floor on liquidity) directly allows competition for market orders. Moving toward a more competitive market reduces distortions and economic rents.

As a general matter, a liquidity provider is incentivized to get its quote to the front of the queue ( i.e. establish price/time priority on an order book).^[999] This is because stock exchange priority rules give greater priority to better priced orders and generally factor order entry time into the priority of limit orders at the same price. When the NBBO is equal to the tick, liquidity providers cannot establish price priority (other than by crossing the spread) ^[1000] because there are no price points at which to do so.^[1001] Because liquidity providers cannot establish price priority when the NBBO spread is one tick, establishing time priority becomes more important.^[1002] Consequently, an environment where stocks are tick-constrained with artificially wider spreads and longer order queues tends to favor traders who are better able to establish positions more quickly so they can be at the front of the queue. Traders who are at the back of the queue face slower executions and the risk of not being executed against at all (a lower fill rate). In the latter case, they will need to resubmit an order when the market has moved in an unfavorable direction, increasing transaction costs. Adverse selection amplifies these costs: the orders of slower traders are most likely to be executed when such an execution is unfavorable to them and least likely when they would be favorable. For example, a sell order at the back of the queue will tend to be filled when there are many buy orders, which tend to increase the price, implying that selling is disadvantageous.

To summarize, current wider quoted spreads mean greater cost to liquidity demanders and greater revenue to liquidity providers.^[1003] An artificially wide spread, due to a price floor imposed by the tick constraint, effectively subsidizes liquidity provision. Because there is an increased incentive to provide liquidity via limit orders, queues of limit orders tend to be longer, and wait times to get a limit order executed also tend to be longer. This makes it more likely that the market moves away from an investor's limit order and leads to lower overall fill rates for limit orders.^[1004] Thus the floor on liquidity leads to rents accruing to fast liquidity providers ^[1005] at the expense of slower ones as well as liquidity demanders.^[1006]

3. Economics of Access Fees

Trading venues can choose to charge an access fee, or pay a rebate, to their participants—liquidity providers and liquidity takers—who trade at their venue. The trading venue can further choose to levy the fee (or pay the rebate) on either the liquidity taker or liquidity provider, or on both. As discussed in infra section VII.C.2.b, the most common fee structure is maker-taker, in which liquidity takers are assessed an access fee and liquidity providers are paid a rebate, which is typically funded through the access fee. That is, for a buy order the liquidity taker pays the price plus the access fee. For a sell order, the liquidity taker receives the price, less ( print page 81685) the fee. Assuming the broker-dealer is the principal to the trade, then the economic price of accessing or providing liquidity would be equivalent to the displayed nominal price net of the applicable fees. If the broker-dealer is an agent, then there maybe a wedge between economic price of accessing or providing liquidity and the price net of the fee and rebate. It is possible that the fee and rebate may be passed on directly to the customer. The fee and rebate may be passed on indirectly and in part through fees, commissions, or as part of a bundle of services to the customer.

Section VII.C.2 describes the current market structure as it relates to access fees and rebates. A key feature of the current market structure is that many exchanges charge at the current cap and pay out nearly all of the fee as a rebate. For this reason, in practice the Commission expects access fees to be near the cap under the amended rule, just as they are near the pre-existing cap under the current structure. As discussed in the Proposing release, several basic economic considerations are among those governing the analysis of access fees. First, access fees should be such that net and quoted prices satisfy coherence.^[1007] Second, under simplifying assumptions, fees and rebates are approximately neutral provided that the stock is not tick constrained,^[1008] although outside of those simplifying assumptions lowering the access fee cap can have additional benefits as discussed in section VII.D.2.d. Finally, for tick constrained stocks, access fees and rebates can distort liquidity supply and demand, increasing transaction costs for investors.^[1009]

In response to the Proposing Release, the Commission received extensive comment regarding the role of fees and rebates on the supply of and demand for liquidity.^[1010] Below, to address comments, the Commission supplements its discussion on how access fees and fee-funded rebates may affect trading in the presence of the commonly used maker-taker fee structure.^[1011] This section addresses certain aspects of fees and rebates in developing a basic framework for evaluating the principle economic effects and responding to comments. The remaining aspects and effects are considered in sections VII.C.2, VII.D.2, and VII.D.3.

a. Liquidity With Access Fees and Rebates

In the absence of ticks, the market for liquidity, discussed in section VII.B.1, may generally be represented by an economic model of supply and demand, as shown below in panel A of figure 1.^[1012] The vertical axis represents the price of liquidity, here the quoted half-spread ( i.e. because the liquidity taker is not typically on both sides of the trade, we use the quoted half-spread to measure price of liquidity ^[1013] ), while the horizontal axis represents the quantity of liquidity.^[1014] Liquidity providers supply liquidity, and the supply curve is upward sloping because liquidity providers are willing to supply more liquidity when the price of liquidity is higher. Liquidity takers demand liquidity, and the demand curve is downward sloping because liquidity takers demand less liquidity at higher prices of liquidity ( i.e., they trade less when they have to pay higher transaction costs). The supply and demand curves intersect at the point where the amount of liquidity supplied equals the quantity demanded, which indicates the equilibrium price and quantity of liquidity in the market.

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Consider next the effect on liquidity of a 30 mils access fee used to fund a 30 mils rebate.^[1015] With a rebate of 30 mils, liquidity providers who submit buy orders are willing to increase their bid price by 30 mils, while liquidity providers who submit sell orders are willing to lower their ask price by 30 mils. For this reason, the bid-ask spread narrows by 60 mils, and the quoted half-spread ( i.e., price of liquidity) narrows by 30 mils. Accordingly, in panel B of figure 1, the supply curve for liquidity shifts down by 30 mils. Likewise, the 30 mils access fee acts as a tax on liquidity takers. This means that, for the same amount of liquidity, liquidity takers will reduce the price they are willing to pay by 30 mils to account for the access fee (since their net cost to take liquidity is the price they pay plus the access fee). In panel B of figure 1, this effect is represented by the liquidity demand curve shifting down by 30 mils. Because both the supply curve and the demand curve shift down by 30 mils, they continue to intersect at the same quantity of liquidity.^[1016] That is, the equilibrium amount of liquidity remains unchanged, but the displayed price is 30 mils lower. The net cost to take liquidity is not affected since it equals the price of liquidity plus the 30 mils access fee; ^[1017] similarly, the net proceeds from providing liquidity are not affected since they equal the price of liquidity plus the 30 mils rebate.^[1018] Thus, in the absence of frictions ( e.g., discrete prices, minimum pricing increments, or agency problems), the level of fees and rebates (when fees and rebates are equal in size) does not affect the total costs of trading.^[1019] As one commenter put it, “when liquidity suppliers are subsidized at the cost of liquidity takers, spreads decline. If they did not, everyone would want to be a liquidity supplier, and no trade would occur. So, maker-taker pricing created narrower quoted spreads on average, but it does not affect the net cost of providing liquidity.” ^[1020]

Academic work on the effect of a fee change on the Toronto Stock Exchange supports the model.^[1021] In 2005, the exchange began offering a rebate to liquidity suppliers in a pre-defined subset of securities. For securities in which the total fee remained constant but was split into a maker rebate and a taker fee, the authors find that quoted spreads narrow, but the net spread—which includes the quoted spread and the take fee—did not change.^[1022]

b. Liquidity With Ticks, Access Fees, and Rebates

Section VII.B.3.a shows that the quoted spread adjusts to a fee and rebate by narrowing by the amount of the fee and the rebate. The supply and demand curves in section VII.B.3.a are continuous, whereas in fact displayed liquidity has discrete price points, namely ticks (the focus of section VII.B.2). In the presence of ticks, access fees and rebates need no longer be neutral, namely the quoted spread may not adjust in the same seamless way to the presence of a rebate. The basic intuition of section VII.B.3.a states that a liquidity provider is indifferent between receiving compensation from the spread and compensation from the rebate. If a rebate is offered, the liquidity provider in a competitive market responds by accepting a lower spread. However, if the quoted spread is already at its floor, as specified by the tick, it is not possible to further lower the spread. In this case, unlike in section VII.B.3.a, the rebate and access fee are therefore not neutral. Rather, the floor creates rents that in this case accrue to those liquidity suppliers that are able to get to the front of the queue the fastest. These rents are earned at the expense of liquidity takers and slower liquidity providers.^[1023]

For stocks that are not constrained by the tick, rebates and access fees are again on average neutral, as we now show. Consider, for example, a stock with an economic spread of 2 cents. Absent a fee or rebate, the quoted spread would equal the economic spread rounded up to the next smallest tick, or this case, also 2 cents.^[1024] Given a 30 mil rebate, a liquidity provider would be willing to quote a spread of 1.4 cents (the economic spread of 2 cents minus twice the 0.3 cents rebate, or 1.4 cents). However, given the tick, it is likely that the quoted spread would be a full 2 cents. If it were any lower, the profit-maximizing liquidity provider would incur a marginal cost (the economic spread of 2 cents) that exceeds the marginal benefit ( i.e., the next smaller quoted spread of 1 cent plus twice the 0.3 cent rebate, or 1.6 cents). It is unlikely that the liquidity provider would be willing to do this.^[1025] Now, consider the perspective of the market participant taking liquidity. Because the liquidity taker is not typically on both sides of the trade, we use the half-spread to measure their costs due to the bid-ask spread.^[1026] This liquidity taker pays the half-spread along with the access fee. In this case, the half-spread is 1 cent and the access fee is 0.3 cents, so the total is 1.3 cents. As stated above, in the absence of rebates, the quoted spread would equal its economic spread of 2 cents. The half-spread would be 1 cent, less than 1.3 cents, meaning that the liquidity taker pays more when there are fees and rebates.

However, consider a stock with an economic spread of 2.5 cents. Given a ( print page 81688) 30 mil rebate, a liquidity provider would be willing to quote a spread of 1.9 cents (the economic spread of 2.5 cents minus twice the 0.3 cents rebate, or 1.9 cents). Again, given the tick, it is likely that the quoted spread would be a full 2 cents. The liquidity taker would again pay 1.3 cents. In this case, in the absence of rebates, it is likely that the quoted spread would be 3 cents. Otherwise, the profit-maximizing liquidity provider would incur a marginal cost (the economic spread of 2.5 cents) that exceeds the marginal benefit ( i.e., the next smallest quoted spread of 2 cents). Given that the quoted spread is 3 cents, the quoted half-spread would be 1.5 cents, so the liquidity taker would likely pay more if there were no fees and rebates.

This same reasoning can be used to show that, except for stocks for which the economic spread is one cent or below, the effect of fees and rebates cancels out mathematically.^[1027] The main intuition is that, while liquidity providers will quote one tick lower if the rebate pushes the spread below the next smaller tick, liquidity demanders pay the access fee even if the rebate does not change the quoted spread. We show that the gains to liquidity demanders from this situation are exactly offset by their losses when the rebate does not result in quoting one tick lower, all provided that the economic spread is greater than one cent. Thus, the supply-demand curve reasoning in section VII.B.3.a is robust to the introduction of the tick, provided that the economic spread is greater than 1 tick. In other words, for stocks for which the economic spread exceeds 1 tick, fees and rebates are neutral on average.

One commenter provides a numerical example that might appear to go against this neutrality result. In particular, the commenter states that, “because rebates also increase depth, it is possible that the costs of access fees for liquidity takers are more than offset by the tighter spreads and depth that they create.” ^[1028] The numerical example is as follows: A liquidity taker wants to buy 1,000 shares, and the tick size is 1 cent. Without access fees and rebates, the liquidity provider is willing to sell 651 shares at a price of $10.02 and 349 shares at a price of $10.03, in which instance the liquidity provider earns $10.02349 per share.^[1029] The liquidity taker then pays an average of $10.02349 per share to buy the 1,000 shares.^[1030] In the presence of an access fee and rebate of 30 mils per share ( i.e., $0.003 per share), the commenter states that the liquidity provider is willing to sell all 1,000 shares at $10.02, in which instance the liquidity provider earns only $10.023 per share ( i.e., $10.02 per share + $0.003 rebate per share = $10.023 per share). The liquidity taker thus pays only $10.023 per share to buy the 1,000 shares in the presence of an access fee and rebate of 30 mils ( i.e., $10.02 per share + $0.003 access fee per share = $10.023 per share).

However, it is not clear from the example why the liquidity provider would be willing to offer all of the 1,000 shares at $10.02 per share and earn only $10.023 per share in the presence of the rebate when it earned $10.02349 per share absent the rebate. Rather, in the presence of the rebate, the liquidity provider would be willing to sell 951 shares at $10.02 and 49 shares at $10.03, in which instance it would also earn $10.02349 per share on average.^[1031] Depth does increase, as the commenter states. However, consistent with the neutrality argument, the liquidity taker pays exactly the same as without the fees and rebates. Thus, while tighter spreads offset the cost of access fees, they do not “more than offset” these fees.^[1032]

The previous argument for neutrality pertained to stocks for which the economic spread was greater than one tick. For stocks for which the economic spread is less than 1 tick, however, fees and rebates are not neutral. Rather, because the quoted spread cannot fall to compensate for the rebate, provision of liquidity is overpriced at the spread of one tick. Because the price is artificially high, the supply of liquidity is distorted,^[1033] leading to rents for liquidity providers who can get to the top of the queue the fastest. It is harder as a result for slower liquidity providers, such as retail investors and institutions to have their limit orders executed. It is also more expensive for investors seeking to access liquidity. For these stocks, lowering the access fees lowers rents and improves market quality, making it cheaper to transact for investors as a whole.

C. Baseline

The baseline against which the costs, benefits, and the effects on efficiency, competition, and capital formation of the amendments are measured consists of the current state of the trading environment for NMS stocks, including pricing increments; current practice as it relates to order routing, quotes, fees, and rebates; and availability of data about quotes, fees, and rebates; and the current regulatory framework. The economic analysis appropriately considers existing regulatory requirements, including recently adopted rules, as part of its economic baseline against which the costs and benefits of the amendments are measured.^[1034]

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Several commenters requested that the Commission consider interactions between the economic effects of the proposed rule and other recent Commission rules.^[1035] Since the date of the Proposing Release, the Commission has adopted eight rules mentioned by commenters,^[1036] namely the Settlement Cycle Adopting Release,^[1037] the February 2024 Form PF Adopting Release,^[1038] the May 2023 SEC Form PF Adopting Release,^[1039] the Dealer Adopting Release,^[1040] the Beneficial Ownership Adopting Release,^[1041] Rule 10c-1a Adopting Release,^[1042] the Short Position Reporting Adopting Release,^[1043] and the Rule 605 Amendments.^[1044] The Commission has also considered the potential effects on entities that are implementing other recently adopted rules during the compliance period for these amendments, including the Treasury Clearing Adopting Release ^[1045] and the ( print page 81690) Customer Notification Adopting Release.^[1046] These recently adopted rules were not included as part of the baseline in the Proposing Release because they were not yet adopted at that time, but they are part of the baseline in this analysis.^[1047] In response to commenters, this economic analysis considers potential economic effects arising from any overlap in compliance dates between these amendments and the other recent amendments.^[1048] It also considers interactions between these amendments and the Rule 605 Amendments.^[1049]

1. Tick Sizes

Preexisting Rule 612 of Regulation NMS restricts the ability of venues to display, rank, or accept quotations in NMS stocks beyond a certain minimum quoting increment (or tick). This section discusses current regulation on tick sizes and Commission analysis showing that the current tick size acts as a binding price floor on the quoted spread a significant portion of the time for a large fraction of the share volume transacted in NMS stocks.

a. Current Regulations

Preexisting Rule 612 of Regulation NMS, which came into effect on August 29, 2005, prohibited a national securities exchange, national securities association, ATS, vendor, or broker or dealer from displaying, ranking, or accepting quotations, orders, or indications of interest in any NMS stock priced in an increment smaller than $0.01 if the quotation, order, or indication of interest is priced equal to or greater than $1.00 per share. If the quotation, order, or indication of interest is priced less than $1.00 per share, the minimum pricing increment is $0.0001. Most listing exchanges require stocks listed on their exchanges to maintain a price greater than $1.00 per share, and consequently $0.01 is the prevailing tick size for most quotes and orders for NMS stocks.^[1050] Preexisting Rule 612 of Regulation NMS effectively establishes $0.01 as the minimum spread that can be quoted for stocks priced equal to, or greater than, $1.00 per share because the NBBO is determined by the best displayed round lot quotes, and exchanges are required to have rules in place to avoid and reconcile locked and crossed quotations.^[1051]

While preexisting Rule 612 of Regulation NMS restricts quoting or submitting orders in sub-penny increments for NMS stocks priced greater than or equal to $1.00, it does not restrict trading in sub-penny increments. Sub-penny trading on exchanges and ATSs occurs primarily as a result of midpoint orders and benchmark trades. Benchmark trades, such as volume weighted average price (“VWAP”) and time weighted average price (“TWAP”) orders, may not be explicitly priced in an impermissible sub-penny increment, but the ultimately determined execution price may be in a sub-penny increment. Trading at sub-penny increments also occurs as a result of broker-dealers, including some OTC market makers known as wholesalers, internalizing customer order flow at sub-penny prices.^[1052]

Sub-penny trading on registered exchanges may also occur as a result of their RLPs. The Commission granted exemptions from Rule 612 to various national securities exchanges' RLPs as a means to allow them to compete with OTC sub-penny price improvement.^[1053] Under the RLPs, exchanges can accept and rank certain quotes and orders from certain participants in sub-penny increments as small as $0.001.^[1054] The national securities exchanges designed the RLPs to attract retail orders by providing a potential for price improvement at sub-penny levels because “most marketable retail order flow is executed in the OTC markets, pursuant to bilateral agreements, without ever reaching a public exchange” and OTC market makers typically pay retail brokers for their order flow.^[1055] Quotes in RLP programs are not displayed. Instead, the appropriate SIP disseminates a flag indicating the side of the market for which an exchange has an RLP quote available at a price better than the NBBO. Because the exclusive SIP does not make known the price or the size of the RLP quote, market participants do not see the full liquidity available in RLP programs.^[1056] To date, RLPs have not attracted a significant volume of retail order flow.^[1057]

( print page 81691)

One commenter stated the ability to trade in increments of smaller than a penny in certain circumstances as means of suggesting that there may be no need for rulemaking.^[1058] However, it is not possible to post a displayed quote at an increment other than a penny. The economic forces that govern the tradeoffs in determining the tick size depend on the quote being displayed, ranked, and accepted. The empirical analysis also pertains to displayed quotes.

b. Analysis of Quoted Spreads Under Current Ticks

This section discusses empirical analysis by the Commission on the prevalence of trading at different quoted spread ranges, defined in the Proposing Release using the concept of TWAQS.^[1059] To document the prevalence of trading at different quoted spread ranges, table 3 presents data on trading volume in 2023 based on average time weighted quoted spreads throughout the entire year for NMS stocks with a quotation, order, or indication of interest priced equal to or greater than $1.00 per share.^[1060] The analysis breaks trading volume each day into one of 17 average quoted spread bins, beginning with stocks that have TWAQS less than or equal to $0.011. ¹⁰⁶¹ Table 3 also reports the daily average number of stocks in each bin.

The data analysis in table 3 indicates that under the current tick size regime in 2023, 65.2% of share trading volume (31.5% of dollar volume) occurred in stocks in the first average quoted spread bin of $0.011 or less. Table 3 also reports that an additional 9.1% of share volume (15.3% of dollar volume) occurred in stocks with quoted spreads between $0.011 and $0.015. In sum, in table 3, in 2023, approximately 74.3% of share volume (46.8% of dollar volume) transacted in NMS stocks (specifically, NMS stocks with a quotation, order, or indication of interest priced equal to or greater than $1.00 per share) which have a quoted spread that is likely to be constrained by the minimum pricing increment,^[1062] which as discussed both above (section VII.B.2) and below (VII.D.1) increases transaction costs.

Table 3—Share Volume by Quoted Spread 2023  ^a

Quoted spread	Share volume (%)	Dollar volume (%)	Average # stocks
Quoted Spread ≤ $0.011	65.2	31.5	1,782
$0.011 < Quoted Spread <= $0.015	9.1	15.3	638
$0.015 < Quoted Spread <= $0.02	4.2	5.2	560
$0.02 < Quoted Spread <= $0.03	5.7	8.4	1,036
$0.03 < Quoted Spread <= $0.04	3.6	7.6	811
$0.04 < Quoted Spread <= $0.05	2.1	3.6	673
$0.05 < Quoted Spread <= $0.06	1.5	2.3	582
$0.06 < Quoted Spread <= $0.07	1.2	2.1	522
$0.07 < Quoted Spread <= $0.08	1.0	1.8	445
$0.08 < Quoted Spread <= $0.09	0.8	1.6	377
$0.09 < Quoted Spread <= $0.10	0.7	1.6	317
$0.10 < Quoted Spread <= $0.11	0.6	1.5	271
$0.11 < Quoted Spread <= $0.12	0.5	1.3	222
$0.12 < Quoted Spread <= $0.13	0.4	1.1	187
$0.13 < Quoted Spread <= $0.14	0.3	1.1	163
$0.14 < Quoted Spread <= $0.15	0.3	1.0	144
$0.15 < Quoted Spread	2.8	13.0	2,177
a  This table provides share volume by stocks with different quoted spread profiles. To create this table, for each day the universe of stocks (identified by a unique stock variable) covered in the WRDS Intra-Day Indicators data are assigned into one of the 17 quoted spread bins based on that day's time weighted quoted spread as computed by WRDS Intra-Day Indicators. Then all share and dollar trading volume across all trading days in 2023 is aggregated for each of the 17 quoted spread bins. Percentages based on these totals are then computed. This table also presents the daily average number of stocks in each bin. To compute this variable, for each trading day in 2023, the number of stocks in each bin is tabulated, then the average across all trading days is presented here. Certain items in this table 3 may also be affected by the MDI Rules once they are fully implemented. See infra section VII.C.3.

c. Reverse Stock Splits

A reverse split exchanges a fixed number of existing shares for a smaller number of new shares. The new shares have a higher price, but there are fewer of them.^[1063] For example, if an issuer undergoes an 8-for-1 reverse split, eight shares are exchanged for one share that is worth the same as the eight, ( print page 81692) increasing the price by a factor of eight. All else equal, one would expect the quoted spread, which represents the per-share trading costs to also rise by a factor of eight. Thus, the cost of transacting in the stock, for a given dollar exposure, would remain constant. However, if a stock were tick constrained, undergoing a reverse split would cause the tick to become smaller relative to the (higher) stock price, thereby alleviating the tick constraint and reducing transaction costs.^[1064]

Using this logic, one commenter pointed out that currently the problem that the Commission identifies with regard to tick constrained stocks could be solved without Commission action by issuers making the decision to undergo a reverse stock split.^[1065] The commenter further states, “[t]he fact that issuers do not discuss this indicates the issue is immaterial to them.” ^[1066] While the Commission agrees that a reverse split alleviates the tick constraint, there may be reasons that an issuer may choose not to undergo a reverse split apart from an assessment of the immateriality of tick constraints. Reverse splits have historically been associated with negative stock returns.^[1067] Research suggests that this may be because the market views stock splits as a signal,^[1068] and issuers may not wish to give the appearance of bad news with a reverse split. Reverse splits also change the share price, which may affect the trading characteristics of the stock.^[1069] In addition, the direct administrative costs of a stock split for a large issuer are estimated to be between $250,000 and $800,000 (as of 2009).^[1070] Finally, an issuer may not capture all of the benefits of the liquidity arising from the reverse split and the alleviated constraints. In sum, though reverse stock splits may address tick constraints, they are an inefficient solution for tick constrained securities. One commenter agreed, stating that “while issuers can make pricing in their securities more or less granular through reverse or forward splits, it's not practical for the SEC and the industry to rely on them to do so.” ^[1071]

2. Access Fees

This section discusses current regulation on the access fee cap, the current practices at exchanges for setting access fees and rebates, and Commission analysis showing that most exchanges assess access fees close to the current access fee cap and use these access fees to principally fund rebates.

a. Current Regulations

Preexisting Rule 610(c) limits the fees that trading centers can charge for accessing protected quotations with prices of $1.00 per share or greater to $0.0030 per share (or 30 cents per 100 shares). This level is commonly referred to as 30 mils.^[1072] Preexisting Rule 610 also prohibits access fees in excess of 0.3% of the price for stocks priced less than $1.00 per share. The 30 mil fee cap was adopted as a part of Regulation NMS in conjunction with the order protection rule and was implemented to prevent trading centers from charging excessive fees to orders that were required to trade with a protected quote.^[1073] The 30 mil fee cap was also set based on existing market practices at the time.^[1074] Rule 610(c) only regulates fees to access protected quotes; it does not regulate fees to access non-protected quotes, nor does it regulate rebates that exchanges can offer. However, the 30 mil fee cap has become a central component of the structure of fees and rebates as access fees for non-protected quotes generally do not exceed the 30 mil fee cap, nor do typical rebates.^[1075]

b. Current Practices at Exchanges

The transaction fee structure on an exchange currently takes one of three forms. The most common is maker-taker, in which liquidity demanders ( i.e., takers) are assessed the access fee and liquidity providers ( i.e., makers) are offered a rebate. Exchanges can also be inverted (also known as taker-maker), in which liquidity demanders are offered a rebate and liquidity providers are assessed an access fee.^[1076] The last form of fee structure is flat; a flat exchange either charges one or both sides a fee but does not offer rebates. While the exchanges are free to subsidize rebates beyond what they earn through collecting access fees, in practice this does not appear to happen.^[1077] The difference between the average access fee charged and the average rebate paid ( print page 81693) is the net capture earned by the exchanges for facilitating a transaction.^[1078]

The regulatory access fee cap is most relevant for maker-taker markets where the trader accessing a protected quote must pay the access fee. This is because the access fee cap applies only to fees for accessing protected quotations and does not apply to fees for posting quotations. On an inverted venue, the exchange is not restricted by preexisting Rule 610 in terms of the rebate that it can offer to access a protected quote or the fee to post a protected quote.^[1079] Flat rate venues, which do not offer rebates, do not appear to be economically constrained by the preexisting Rule 610(c) as their fees for both taking and adding liquidity are significantly lower than the 30 mil fee cap.^[1080]

Fee/rebate schedules can be quite complex, and the fee schedules change frequently.^[1081] As was discussed in the Proposing Release,^[1082] the actual fee or rebate that an exchange member is assessed on most exchanges also generally depends on which tier a market participant falls into based on trading volume in that month, with higher-volume market participants typically receiving a higher rebate or a lower fee.^[1083] Exchanges file their fee and rebate schedules with the Commission and post them on their websites. While this means that the rebate and fee rates associated with each volume-based tier can be known at the time a market participant trades, market participants may not know which volume-based tier they will fall under at the time of the trade (and thus the fee or rebate rate that will apply to their particular trade) because the tier they will fall under is typically determined based on their trading volume during the current month, which is not finalized until the end of the month.^[1084] More specifically, the volume-based fees or rebates a market participant receives from an exchange are often determined by a market participant's average total daily traded share volume on the exchange during the month as a percentage of either the average total daily market volume reported by one of the consolidated tapes during the month or as a percentage of the average total daily market volume reported by all consolidated tapes during the month.^[1085] It is therefore, as one commenter stated, difficult for market participants to forecast trading costs.^[1086] Hence, market participants currently typically have to make trading decisions without the ability to determine their full trading costs.

Broker-dealers trading in an agency capacity may pass fees and rebates received from exchanges while working a customer's order through to the customer, either directly or through a change in the commission charged for the order. One commenter stated that passing through transaction fees and rebates is not common.^[1087] The Commission is uncertain the extent to which transaction fees and rebates are passed through to customers, or in what form. It is possible that fees and rebates are passed through indirectly in the form of payment for order flow or in price improvement. For example, one broker-dealer's 606 reports, in discussing orders routed to a wholesaler, acknowledged that exchange rebates may affect the wholesaler's subsequent routing decision, but that those rebates could be used to provide price improvement to the broker-dealer's customers or order flow payments to the broker-dealer.^[1088] As discussed in the Proposing Release, the Commission is uncertain of how much demand currently exists for rebates to be passed through to end customers.^[1089]

Market participants who are not themselves broker-dealers may access information on exchange fees and rebates through reports available under Rule 606. With respect to held orders, Rule 606(a)(1) requires broker-dealers to produce quarterly public reports regarding their routing of non-directed orders ^[1090] in NMS stocks that are submitted on a held basis. Along with other information, these reports require the broker-dealer to report both the total dollar amount and per share average of net transaction fees paid and net transaction rebates received for different ( print page 81694) order types for each trading venue to which the broker-dealer reports routing orders.^[1091] Additionally, Rule 606(b)(3) requires broker-dealers to produce reports pertaining to order handling upon the request of a customer that places, directly or indirectly, one or more orders in NMS stocks that are submitted on a not held basis, subject to a de minimis exception.^[1092] For each venue to which the broker-dealer routed the customer's orders, these reports require the broker-dealer to disclose, among other things, the average net execution rebate or fee for shares of orders providing liquidity and the average net execution rebate or fee for shares of orders removing liquidity.^[1093] However, these reports provide market participants with information only on historical average transaction fees and rebates and may not accurately reflect the current exchange fees and rebates a market participate will encounter at the time of its transaction.^[1094]

c. Analysis of Current Access Fees and Rebates

The Commission analyzes, in table 4, current fee and rebate schedules, based on Rule 19b-4 filings with the Commission, for each of the equity exchanges operating in the United States as of February 8, 2024,^[1095] as well as the transaction prices that each exchange posts.^[1096] What is apparent from this analysis is that the current structure of fees and rebates is complex and constantly changing.^[1097] Each exchange, except LTSE which does not charge transaction fees, filed an average of 13.6 Rule 19b-4 equity market fee filings with the Commission in 2023. Market participants interacting with all exchanges had to adjust to 218 total fee filings in 2023. Each filing can contain changes for numerous fee and rebate categories.

The effect of the 30 mils fee cap as an anchor point is also apparent. For most exchanges the maximum fee assessed, presumably for non-protected quotes, is close to the 30 mils fee cap for protected quotes. The maximum rebate is generally in the vicinity of 30 mils, further suggesting the 30 mils access fee cap effectively limits what the exchanges offer as rebates. Some exchanges offer different access fees and rebate schedules for retail versus non-retail trades.^[1098]

Panel B of table 4 provides information on the exchange's fee schedules for stocks priced lower than $1.00. For these transactions, the fee schedules tend to be simpler. Most exchanges do not offer a rebate for transactions lower than $1.00 even if the exchange offers rebates for other transactions—only three exchanges offer any sort of baseline rebate.^[1099] Additionally, the exchanges tend to charge an access fee of 0.1% with some also charging the maximum access fee of 0.3% of the share price. Only one exchange charges a fee of 0.1% to both sides of a transaction.

Table 4—Summary of Transaction-Based Fee Schedules for U.S. National Equities Exchanges as of February 2024  ^a

Exchange	Fee model	Number of revisions 2023	Date of fee schedule	Fees (# of categories)	Rebates (# of categories)
Panel A: Fees and Rebates for Transactions Greater Than $1.00
Cboe BZX b	Maker-Taker	42	1/2/2024	$0.0030 (1)	$0.0016-$0.0031 (7)
Cboe BYX c	Inverted	9	2/1/2024	$0.0012-$0.0020 (10)	$0.0015-$0.0020 (4)
Cboe EDGA d	Inverted	14	2/7/2024	$0.0000-$0.0030 (12)	$0.0016-$0.0024 (5)
Cboe EDGX e	Maker-Taker	44	2/1/2024	$0.00275-$0.0030 (3)	$0.0020-$0.0034 (8)
BX f	Inverted	6	2/1/2024	$0.0020-$-$0.0030 (2)	$0.0005-$0.0018 (7)
Phlx (PSX) g	Maker-Taker	4	2/1/2024	$0.0030 (1)	$0.0020-$0.0033 (5)
Nasdaq h	Maker-Taker	6	2/1/2024	$0.0030(1)	$0.0013-$0.00305 (26)
NYSE Arca i	Maker-Taker	11	2/1/2024	$0.0000-$0.0030 (6)	$0.0000-$0.0032 (6)
NYSE American	Maker-Taker	7	1/3/2024	$0.0025-$0.0030 (3)	$0.0016-$0.0030 (3)
NYSE	Maker-Taker	16	1/12/2024	$0.0000-$0.00275 (5)	$0.0004-$0.0030 (11)
NYSE National	Inverted	5	1/3/2024	$0.0022-$0.0029 (4)	$0.0007-$0.0030 (5)
NYSE Chicago	Maker-Taker	3	1/8/2024	$0.0010-$0.0030 (1)	$0.0000 (0)
IEX j	Maker-Taker	2	1/24/2024	$0.0000-$0.0010 (2)	$0.0004 (1)
MEMX k	Maker-Taker	22	2/1/2024	$0.00295-$0.0030 (2)	$0.0015-$0.0033 (6)
MIAX Pearl l	Maker-Taker	10	1/17/2024	$0.0024 (1)	$0.00295 (1)
LTSE m	Free	NA	N/A	$0.0000 (1)	$0.0000 (1)

( print page 81695)

Exchange	Fee Model	Rebate	Fee (%)	Charged both sides
Panel B: Fees and Rebates for Transactions Under $1.00
Cboe BZX	Maker-Taker	0	0.30
Cboe BYX	Inverted	0	0.10
Cboe EDGA	Inverted	0	0
Cboe EDGX	Maker-Taker	0.00009 (per share)	0.30
BX	Inverted	0	0.10
Phlx (PSX)	Maker-Taker	0	0.30
Nasdaq	Maker-Taker	0	0.30
NYSE Arca	Maker-Taker	0	0.10
NYSE American	Maker-Taker	0	0.10
NYSE	Maker-Taker	0	0.10
NYSE National	Inverted	0	0
NYSE Chicago	Maker-Taker	0	0.10	Yes.
IEX	Maker-Taker	0	0.09
MEMX	Maker-Taker	0.075% (of value)	0.10
MIAX Pearl	Maker-Taker	0.15% (of value)	0.250
LTSE	Free	0	0
a  The number of fee revisions is obtained by counting each Rule 19b-4 filing for each exchange that is not clearly marked for a non-transaction fee related purpose such as connectivity fees, listing fees, options fees, etc. To determine the fee and rebate information, the staff searched each exchange's webpage for its current posted access fee and rebate schedule and collected information on access fees and rebates pertaining to non-auction trading in stocks priced equal to, or greater than, $1.00 per share. Sources for Current Access Fee Data were effective on the dates shown in panel A of table 4, and were accessed during February 2024 at the websites shown beneath the table.
b   https://www.cboe.com/​us/​equities/​membership/​fee_​schedule/​bzx/​.
c   https://www.cboe.com/​us/​equities/​membership/​fee_​schedule/​byx/​.
d   https://www.cboe.com/​us/​equities/​membership/​fee_​schedule/​edga/​.
e   https://www.cboe.com/​us/​equities/​membership/​fee_​schedule/​edgx/​.
f   https://www.nasdaqtrader.com/​trader.aspx?​id=​bx_​pricing.
g   https://www.nasdaqtrader.com/​trader.aspx?​id=​psx_​pricing.
h   https://www.nasdaqtrader.com/​Trader.aspx?​id=​PriceListTrading2.
i  All NYSE Exchange Family fees: https://www.nyse.com/​markets/​fees.
j   https://exchange.iex.io/​resources/​trading/​fee-schedule/​. (Note: that the majority of IEX trading occurs via non-displayed orders. IEX only pays rebates on displayed orders.)
k   https://info.memxtrading.com/​equities-trading-resources/​us-equities-fee-schedule/​.
l   https://www.miaxglobal.com/​sites/​default/​files/​fee_​schedule-files/​MIAX_​Pearl_​Equities_​Fee_​Schedule_​01172024.pdf.
m   https://ltse.com/​trading/​faqs.

( print page 81696)

Complex fee schedules and volume-based tiers mean that it is difficult for the Commission to determine the net capture on a given exchange (the difference between average fees levied and rebates paid).^[1100] Additionally, financial statements for exchange groups generally do not break down performance on a per-venue level and the financial statements generally combine auction access fees collected with regular trading access fees. Furthermore, some exchanges are privately held and thus do not release the same financial statements that public exchanges do. Using information from the financial statements of the three major exchange groups which collectively account for the overwhelming majority of trading volume on exchanges, the Commission estimates that the average total net capture is around 4 mils for all trading types.^[1101] However, the Commission understands based on staff conversations with industry members that the net capture for non-auction trading in stocks that have a price equal to or greater than $1.00 is likely close to 2 mils on most exchanges,^[1102] and in the analysis in later sections where the net capture needs to be assumed, we use 2 mils unless otherwise stated.^[1103] A commenter agreed stating that the net fee is typically only 2 mils per share, stating, “it is worth pausing to reflect on just how competitive this net fee is—this is about as close to Bertrand price competition as one sees.” ^[1104] Another commenter reported estimated trading related “all-in” costs to trade ranging 1.9 to 3.4 mils over the 2017 to 2021 period for the three largest exchange groups (Cboe, Nasdaq, and NYSE); ^[1105] these estimates are broadly in line with the estimated net-capture rates and consistent with the 2 mil net capture rate assumption used in the subsequent analysis.^[1106] Given the low net capture rate of 2 mils on most exchanges, the primary reason that access fees remain near 30 mils on most exchanges is likely to fund rebates.^[1107] For stocks trading below $1.00 the Commission estimates an average net capture of around 0.24% of the transaction volume.^[1108] This amount is close to the 0.30% access fee cap and arises because, as seen in panel B of table 4, much of the trading for sub $1.00 priced volume takes place on exchanges which set their baseline fee at or near 0.30% but do not offer baseline rebates for transactions under $1.00. On a per-share basis, this net capture of 0.24% of transaction dollar volume corresponds to a net capture of 7.3 mils.^[1109]

Table 5 presents tabulations of the total share (Panel A) and dollar (Panel B) trading volume executed on the 16 exchanges in 2023.^[1110] This table provides estimates for the total volume that executed below $1.00, and that which executed above $1.00. These numbers represent an estimate of the total number of shares that will have been subject to the access fees and rebates discussed in this release.

Table 5—Trading Volume by Exchange, Exchange Type 2023  ^a

Exchange name	Exchange type	<$1 Volume (billions)	>=$1 Volume QS<= $0.015 (billions)	>=$1 Volume QS > $0.015 (billions)	% of Exchange volume
Panel A: Share Volume
Off-Exchange		192.9	620.3	241.3
Nasdaq	Maker-Taker	26.8	226.2	88.9	26.9
NYSE Arca	Maker-Taker	27.5	139.3	30.4	15.5
NYSE	Maker-Taker	3.4	127.4	37.4	13.2
Cboe BZX	Maker-Taker	14.0	86.3	20.9	9.5
Cboe EDGX	Maker-Taker	21.1	98.2	23.3	11.2
MEMX	Maker-Taker	8.1	61.9	12.0	6.5
IEX	Maker-Taker	1.7	38.9	19.5	4.7
Cboe EDGA	Inverted	2.7	33.8	5.6	3.3
Cboe BYX	Inverted	2.6	20.4	2.8	2.0
MIAX Pearl	Maker-Taker	2.4	41.9	2.7	3.7
NYSE National	Inverted	0.5	11.0	1.4	1.0
( print page 81697)
Nasdaq OMX PSX	Maker-Taker	0.3	7.5	1.9	0.8
Nasdaq OMX BX	Inverted	0.5	6.7	2.6	0.8
NYSE American	Maker-Taker	1.0	4.8	1.0	0.5
NYSE Chicago	Flat	0.2	0.8	1.8	0.2
LTSE	Flat	0.0	0.0	0.0	0.0
Total		305.5	1,525.4	493.5
Exchange Total		112.6	905.1	252.2
Panel B: Dollar Volume
Off-Exchange		65.3	19,744.9	24,508.4
Nasdaq (TapeC)	Maker-Taker	9.1	9,008.3	9,402.3	30.4
NYSE Arca	Maker-Taker	7.6	6,433.3	3,107.1	15.8
NYSE	Maker-Taker	1.5	3,985.9	3,658.6	12.6
Cboe BZX	Maker-Taker	3.1	3,711.6	2,479.9	10.2
Cboe EDGX	Maker-Taker	6.2	3,450.0	2,371.1	9.6
MEMX	Maker-Taker	2.5	2,148.8	1,130.4	5.4
IEX	Maker-Taker	0.8	1,383.8	2,119.0	5.8
Cboe EDGA	Inverted	1.0	1,038.0	494.8	2.5
Cboe BYX	Inverted	0.9	657.2	275.3	1.5
MIAX	Maker-Taker	0.7	1,297.3	268.4	2.6
NYSE National	Inverted	0.2	287.3	131.0	0.7
Nasdaq OMX PSX	Maker-Taker	0.1	368.9	211.9	1.0
Nasdaq OMX BX	Inverted	0.2	274.9	258.7	0.9
NYSE American	Maker-Taker	0.4	165.5	97.7	0.4
NYSE Chicago	Flat	0.1	39.6	236.0	0.5
LTSE	Flat	0.0	1.5	1.6	0.0
Total		99.4	53,996.9	50,752.2
Exchange Total		34.2	34,252.0	26,243.9
a  This table aggregates all trade information from the TAQ database for every trading day in 2023. Only trading volume reflecting normal trades during regular trading is included. Normal trades are identified in TAQ data by sale conditions “blank, @, E, F, I, S, Y” which correspond to regular trades, intermarket sweep orders, odd-lot trades, split trades, and yellow flag regular trades. The remaining share volume was aggregated by exchange, and the table denotes exchange type (maker-taker, inverted, flat, free). Share and dollar volume from exchange codes T and Q were combined into `Nasdaq.' Panel A presents share volume totals and panel B presents dollar volume totals. Certain items in table 5 may also be affected by the MDI Rules once they are fully implemented. See infra section VII.C.3.

Transaction fees for trades in stocks priced equal to or greater than $1.00 are generally levied per share transacted. From table 5 we see that in 2023, there were approximately 2 trillion shares transacted at prices equal to or greater than $1.00 per share across all venues, 57% of which (1.16 trillion shares) were executed on a registered exchange.^[1111] Of these on-exchange transactions priced equal to or greater than $1.00 per share, approximately 78% were in stocks with quoted spreads of $0.015 or less.^[1112] These numbers provide the basis for estimating the total amount of access fees and rebates collected and distributed in transactions priced equal to, or greater than, $1.00 per share. For transactions less than $1.00 per share the access fee is generally levied as a percent of the transaction share price. In panel B we see that in 2023 there was approximately $34 billion transacted on exchanges in shares priced less than $1.00 per share.

Panels A and B of table 6 break down the share and dollar volume statistics presented in table 5 by venue type: maker-taker, inverted, and flat/free.^[1113] The overwhelming majority (over 90%) of both dollar and share exchange trading volume occurs on maker-taker venues. Inverted exchanges capture about 5-7% of dollar and share volume, and the remaining share volume transact on flat/free exchanges.

( print page 81698)

Table 6—Volume by Exchange Type and Estimated Access Fee/Rebate Estimates 2023  ^a

	Price<$1 (billions)	Price>$1; TWAQS ≤ $0.015 (billions)	Price>$1; TWAQS > $0.015 (billions)	% Total
Panel A: Exchange Share Volume by Venue Type
Maker-Taker	106.2	832.4	237.9	92.7
Inverted	6.2	71.9	12.4	7.1
Flat/Free	0.2	0.8	1.8	0.2
Panel B: Exchange Dollar Volume by Venue Type
Maker-Taker	31.9	31,953.4	24,846.4	93.9
Inverted	2.2	2,257.4	1,159.8	5.6
Flat/Free	0.1	41.1	237.6	0.5
Panel C: Estimated Fees Collected and Rebates Distributed (Billions)
Fees Collected		$3.41
Rebates Distributed		$3.08
Exchange Capture		$0.34
Panel D: Total Estimated Net Fees by Liquidity Type (Billions)
Demander		$2.97
Provider		($2.63)
Exchange Capture		$0.34
a  Certain items in this table 6 may also be affected by the amendments in the MDI Rules once they are fully implemented. See infra section VII.C.3.

Panel C provides an estimate of the total amount of access fees collected and rebates distributed.^[1114] In 2023 there were an estimated $3.41 billion in access fees collected across all exchanges and $3.08 billion in rebates distributed, resulting in a net capture to all exchanges of $340 million.

Panel D of table 6 provides estimates of the net access fee paid by liquidity demanders and liquidity suppliers.^[1115] In 2023 liquidity demanders paid an estimated $2.97 billion in net access fees and liquidity providers received an estimated $2.63 billion in rebates. The difference of $340 million is the exchanges' estimated net capture.

Although not subject to Rule 610(c), because they do not post protected quotes, ATSs also often assess transaction fees.^[1116] As of the third quarter of 2023 there were 32 ATSs that reported trading volume to FINRA transacting a total of 73 billion shares.^[1117] Unlike exchanges, the fees that ATSs charge generally do not have a standard structure and are often negotiated between the ATS and the customer. Based on a review of item 19 in form ATS-N, ATSs generally do not provide rebates, and when transaction fees are explicitly discussed, they are often in the range of 10 mils.^[1118]

Table 4 indicates that many exchanges charge the maximum allowed fee, rebating nearly all of it as a compensation for liquidity provision. One commenter states, “access fees have been uniquely impervious to market forces.” ^[1119] Rule 611 generally causes marketable orders to be routed to those markets displaying the best-priced quotations.^[1120] As discussed in section ( print page 81699) VII.B.3, a liquidity provider is generally indifferent between receiving compensation in the form of a rebate or in the form of a quoted spread, implying that an exchange can use rebates to induce quoting lower spreads, and hence the best prices.^[1121] The exchange can fund the rebate with an access fee charged to the liquidity demander, relying on Rule 611 to reduce the loss of liquidity demanding customers that would otherwise occur from such an increase in prices.^[1122] The exchanges profit from the difference between the access fees collected and the rebates paid. Were exchanges to unilaterally lower their access fees and rebates (without other exchanges making similar changes), liquidity providers would likely route their orders to another exchange.^[1123] Notably, research surrounding a Nasdaq experiment where it unilaterally lowered fees and rebates found that Nasdaq lost market share to other maker-taker venues with a higher rebate.^[1124] Table 4 also shows that even the maximum rebates are close to the access fees; doing otherwise would likely be unprofitable or risky.^[1125]

As discussed in the Proposing Release, and as table 4 shows, the NYSE, Nasdaq, and Cboe exchange families each operate both a maker-taker venue as well as an inverted venue,^[1126] Commenters state that inverted venues can be used to achieve intra-tick pricing.^[1127] Specifically, the net price of a trade is the quoted price adjusted for exchange fees and rebates; the quoted price is constrained by the tick, but the net price can be between ticks.^[1128] To the extent that intra-tick pricing on inverted venues is a solution to the quoted price being constrained by the tick, it is a costly one. First, quote protection applies to the quoted bid or ask, not the net cost, implying that routing a market order to an inverted venue runs the risk of the order being routed elsewhere if the inverted venue is not at the NBBO. Research shows that inverted venues are less likely to be at the NBBO, a result that follows from revenue from rebates and from spreads being interchangeable assuming the market participant receives both.^[1129] As explained in section VII.D.1.b.ii, this leads to delays and increased cost.

Second, the existence of inverted venues fragments liquidity compared to the situation where an exchange is able to offer orders to be placed at multiple prices within the quoted spread. One commenter agreed when discussing inverted venues, stating that: “different exchanges are optimal to use for different prices within the penny, which is a recipe for artificial fragmentation, a confusing paper trail, and overall excess complexity. Excess complexity, in turn, is a recipe for excess rents, agency conflict and distrust.” ^[1130]

Lastly, one commenter stated that exchanges could circumvent barriers associated with the tick size and access fees through innovation, such as new order types.^[1131] The commenter stated that: “Lastly, if the tick size were really a significant barrier to competition for exchanges, they could innovate solutions to solve for this. For example, exchanges could develop an order type that functions within the current structure (limit order pricing and priority-ranked based on even penny ticks) but where an order could provide sub-penny price improvement if matched to a marketable order from a counterparty that met certain objective conditions (such as being sourced from a retail customer).” ^[1132] The commenter proceeded to describe a second novel order type that could allow for sub-penny price improvement through reduced access fees for retail investors.^[1133] The order types the commenter lists as examples appear to solve for the specific problem of retail investors achieving price improvement on exchange, a solution that already exists through RLPs (though which do not have significant volume).^[1134] It is possible that a new order type designed to mitigate this problem might not work as intended. In contrast, allowing for more ticks in certain stocks as the Commission is adopting is a more straightforward and predictable way of achieving the same ends without requiring the need for order types designed to allow for sub-tick executions on exchanges.

3. Round Lots, Odd-Lots, and Market Data Infrastructure

Currently, information on odd-lot quotes inside the NBBO is available only to investors who subscribe to proprietary data feeds, and comprehensive odd-lot information is only available to market participants who subscribe to the proprietary data feeds of all the exchanges. The implementation of the MDI Rules will include odd-lot information inside the NBBO.^[1135] The MDI Rules also defined a round lot, which previously had not been defined in a Commission rule. Specifically, the MDI Rules establish a uniform round lot size of 100 shares for stocks priced $250 or less; 40 shares for stocks priced greater than $250 and less than or equal to $1,000; 10 shares for stocks priced greater than $1,000 and less than or equal to $10,000; finally, 1 share for stocks priced greater than $10,000. These amendments modify the round lot definitions set by the MDI Rules by changing the evaluation period in which a stock's share price is measured. The MDI Adopting Release defined round lots based on the stock's average price in the preceding month— i.e., a stock's round lot was updated every month based on the most recent month's data. These amendments ( print page 81700) update round lots every six months, with the round lot determined by the stock's average price with a one-month lag— i.e., a stock's round lot is updated in May of every year using its average stock price in March, and the round lot is updated again in November using its average stock price in September.

In the MDI Adopting Release, the Commission established a transition period for the implementation of the MDI Rules.^[1136] The Commission's approval of the MDI Plan Amendments will be the starting point for the rest of the MDI implementation schedule.^[1137] After approval of the MDI Plan Amendments, the next step will be a 180-day development period, during which competing consolidators can register with the Commission.^[1138] Based on the times provided in the transition plan for implementation of the MDI Rules, the Commission estimated that the full implementation of the MDI Rules will be at least two years after the Commission's approval of the plan amendment(s) required by Rule 614(e).^[1139]

The Operating Committees of the CTA/CQ Plan and UTP Plan filed the MDI Plan Amendments on November 5, 2021.^[1140] The Commission disapproved the proposed amendments on September 21, 2022.^[1141] As a result, the participants to the effective national market system plan(s) will need to develop and file new proposed amendments as required by Rule 614(e),^[1142] before the implementation period prescribed by the phased transition plan can commence. Because the implementation of the MDI Rules has been delayed, the end date of the implementation period cannot be estimated with certainty.

The following discussion reflects the Commission's assessment of the anticipated economic effects of the MDI Rules described in the MDI Adopting Release as they relate to the baseline for the adoption of these amendments.^[1143] The MDI Rules are part of the regulatory baseline for this rule because they have been adopted. Given that the MDI Rules have not yet been implemented, they have not affected market practice and therefore data that would be required for a quantitative analysis of a baseline that includes the effects of the MDI Rules is not available. It is possible that the baseline for this rule, and therefore the economic effects relative to the baseline, could be different depending on how the MDI Rules are implemented.^[1144]

When adopting the MDI Rules, the Commission enumerated numerous economic effects specifically related to changing the round lot definition and including odd-lot information as a part of core data. For the change in the definition of round lots, these effects included: (1) a mechanically tighter NBBO for higher priced stocks due to the redefinition of the round lot sizes,^[1145] (2) increased transparency and better order execution,^[1146] and (3) potentially more orders for high priced stocks being routed to exchanges instead of ATSs.^[1147] The costs of changing the round lot definition included upgrading systems to account for additional message traffic, and modifying and reprogramming systems.^[1148] The Commission also discussed the expected effect that changing the round lot definition will have on other rules and regulations.^[1149]

For the inclusion of odd-lot information inside the NBBO in core data,^[1150] these effects include reducing information asymmetries between investors who currently have access to odd-lot information through proprietary data feeds and those who do not, leading to better order execution and price efficiency.^[1151] Providing an alternative to proprietary data for some market participants will allow these market participants to reduce data expenses required for trading.^[1152] The costs of including odd-lot information inside the NBBO include: ^[1153] the cost of upgrading existing infrastructure and software to handle the dissemination of additional core data message traffic; the cost to SROs to implement system changes required in order to make regulatory data and other data needed to generate consolidated market data available to competing consolidators; the cost of technological investments market participants might have to make in order to receive the new core message traffic; and the cost to users of proprietary data whose information advantage will dissipate somewhat.^[1154]

The MDI Rules do not require the competing consolidators to disseminate odd-lot information. However, the Commission estimated that at least one competing consolidator will disseminate the odd-lot information because the Commission believed that there will be demand for the data.^[1155]

4. Affected Entities and Markets

The amendments will affect trading in NMS stocks, particularly either on exchanges that charge high access fees or in stocks with lower quoted spreads, many odd-lots inside the spread, or higher prices. Therefore, the amendments will affect a wide variety of market participants, including national securities exchanges, other trading venues, exclusive SIPs and their data users, any future competing consolidators, broker-dealers operating order entry and order routing systems, and others who engage in the trading of NMS stocks, including investors.^[1156]

( print page 81701)

There are 16 national securities exchanges on which NMS stocks are traded that will be affected by the amendments. The exchanges compete with each other and other trading venues to attract order flow. Exchanges compete by setting the rules that dictate how orders routed to them interact given the broader requirements of the Exchange Act and rules thereunder. Such rules are coded into the systems of exchanges that match buy and sell orders. Exchanges also compete via their services and fee structures; they differentiate themselves with the access fees they charge or the rebates they pay out for particular order types, as well as their data and connectivity options.^[1157] A subset of national securities exchanges, the five listing exchanges, also compete to attract stock listings by setting rules for listing standards for securities. The listing exchanges are also responsible for tracking certain regulatory information regarding their listed stocks.

Other trading venues, including 33 ATSs and 238 other FINRA members, including OTC market makers, also compete with exchanges and each other to attract order flow in NMS stocks and can route orders to the various trading venues. The order flow they attract depends on a number of factors such as fees and price improvement over the NBBO, services such as order display features, segmentation of subscriber order flow and the ability of subscribers to select which category of order flow to interact with, among other aspects of execution quality.

Pending the full implementation of the MDI Rules, the market for market data is serviced by the two exclusive SIPs and exchange proprietary feeds. The two exclusive SIPs collect trade, quote, and regulatory data from the 16 exchanges and three trade reporting facilities,^[1158] consolidate the data, determine an NBBO, and disseminate those data directly to users or through vendors and broker-dealers. The exclusive SIPs can also collect information from the alternative display facility (“ADF”) operated by FINRA, though no one currently uses the ADF to display quotes. Upon full implementation of the MDI Rules, the exclusive SIPs will be retired, and an unknown number of competing consolidators will take over the collection, consolidation, estimation, and dissemination of these data.^[1159] The volume of data to be processed through these competing consolidators will be greater than that currently processed through exclusive SIPs, but competing consolidators will have flexibility to design data products tailored to different user types. In addition to the exclusive SIPs, the exchanges also disseminate market data to paying subscribers via proprietary data feeds. Some of these proprietary data feeds provide more data than the exclusive SIPs and are provided at a lower latency; however, the proprietary feeds are limited to individual exchanges while the SIPs contain consolidated data across all exchanges and also contain all off-exchange trades.^[1160] Following the transition to a competing consolidator model for market data, the Commission expects total fees for market data are likely to decline.^[1161]

Broker-dealers typically route their own orders or their customers' orders for execution to trading venues. There were 3,494 registered broker-dealers as of Q2 2023.^[1162] A portion of these broker-dealers focus their business on individual and/or institutional investors in the market for NMS stocks. According to CAT data, as of the end of 2022, there were approximately 1,006 registered broker-dealers that originated NMS stock orders on behalf of individual investors and approximately 837 broker-dealers that originated NMS stocks orders on behalf of institutional investors.^[1163] Institutional investor orders are typically “not held” orders, which provides the broker-dealer with more time and price discretion to execute the order or to minimize price impact.^[1164] In contrast, broker-dealers must attempt to execute a marketable held order immediately; these orders better suit retail investors because retail orders typically have much lower price impact, which reduces the need for discretion in order handling.^[1165] Brokers-dealers serving individual investors often distinguish themselves by the customer service and financial advice they provide and the accessibility and functionality of their trading platforms.

Many broker-dealers that handle customer accounts do not directly access national securities exchanges or ATSs for their orders. They use other broker-dealers to facilitate market access for them through those broker-dealers' order entry systems. The Commission estimates that there are 1,161 broker-dealers with order entry systems that originate orders in NMS stocks in the minimum pricing increments; the amendments to Rule 612 may require changes to these order entry systems.^[1166] Of these broker-dealers, an estimated 270 broker-dealers operate smart order routers to facilitate order routing.^[1167]

5. Amendments to Rule 605

Several commenters requested the Commission consider interactions between the economic effects of these proposed amendments and the proposed amendments to Rule 605.^[1168] The amendments to Rule 605 were not included as part of the baseline in the ( print page 81702) Proposing Release because they were not adopted at that time. The Commission amended Rule 605 on March 6, 2024,^[1169] and the requirements of that rule are part of the baseline considered here. With certain exceptions, the amendments to Rule 605 have a compliance date of Dec. 14, 2025,^[1170] which is after the compliance dates of the amendments made by this adopting release. The following discussion reflects the Commission's assessment of the anticipated economic effects of the amendments to Rule 605 described in the Rule 605 Amendments as they relate to the baseline for the adoption of these amendments. Specific interactions between the expected economic effects of the amendments to Rule 605 and those of rules adopted herein will be discussed in detail in a later section.^[1171]

Rule 605 requires disclosures for order executions in NMS stocks.^[1172] The Rule 605 amendments modified reporting requirements in several ways. First, the amendments expanded the scope of reporting entities subject to the rule to include larger-broker-dealers ^[1173] in addition to market centers.^[1174] The amendments also enhanced the accessibility of the reported execution quality statistics by requiring all reporting entities to make a summary report available.^[1175]

The Rule 605 Amendments also included amendments to the information required to be reported under Rule 605, some of which are expected to be relevant to the amendments to this Rule. First, the amendments to Rule 605 added requirements related to the reporting of price improvement statistics relative to the best available displayed price, which incorporates information about the best priced odd-lot orders, in addition to the preexisting requirement to report price improvement statistics relative to the NBBO.^[1176] The Rule 605 Amendments acknowledged that, while under the MDI Rules odd-lot information will include pricing information about odd-lots priced better than the NBBO,^[1177] the MDI Rules have been approved but not yet implemented, and thus this information is not yet available. Therefore, the Commission stated that Rule 605's price improvement statistics that are relative to the best available displayed price will not be required to be reported until six months after odd-lot order information needed to calculate the best available displayed price is made available pursuant to an effective national market system plan.^[1178]

Second, the amendments to Rule 605 require the separate reporting of non-marketable limit orders that are priced at the midpoint of the NBBO or better (“midpoint-or-better NMLOs”), and additionally requires the reporting of information about the price improvement offered to these orders.^[1179] An analysis by the Commission in the Rule 605 Amendments indicates that a high percentage of midpoint-or-better NMLO share volume is submitted with IOC designations as compared to other NMLOs, confirming that many of these orders are submitted by traders with the intention of executing immediately against hidden or odd-lot inside-the-quote liquidity, and that these orders tend to have different execution characteristics than other types of NMLOs.^[1180] Therefore, the Commission stated that market participants will benefit from an increase in transparency by the separate reporting of these orders, along with the required reporting of certain execution quality statistics that measure the cost of executing immediately, such as effective spreads.^[1181]

Third, the amendments to Rule 605 require the reporting of information regarding the extent to which orders received an execution at prices at or better than the quote for share quantities greater than the displayed size at the quote, i.e., “size improvement.” This information includes (1) a benchmark metric that measures the displayed size at the time of order receipt, which can then be compared to the number of submitted shares to determine the extent to which a trading venue handled orders that outsized available displayed depth,^[1182] and (2) for orders that outsized available displayed depth, the number of shares that received size improvement.^[1183]

The amendments to Rule 605 also modified the definition of order size categories from order size categories based on numbers of shares, with orders less than 100 shares excluded, to order size categories based on a notional dollar value range, along with an indication that the category reflects orders that were for an odd-lot, a round lot, or less than a share.^[1184] The Commission stated in the Rule 605 Amendments that one of the benefits of ( print page 81703) this change is to ensure that round lots for stocks with prices greater than $250 are not excluded from Rule 605 reports following the change in round lot definition under the MDI Rules.^[1185]

In the Rule 605 Amendments, the Commission stated that the amendments to Rule 605 will promote increased transparency of order execution quality, particularly for larger broker-dealers who were not required to disclose execution quality information under preexisting Rule 605, but also for market centers, whose execution quality information will be more relevant and easier to access because of improvements to existing Rule 605 disclosure requirements.^[1186] The Commission stated in the Rule 605 Amendments that this increase in transparency is expected to increase the extent to which market centers and broker-dealers compete on the basis of execution quality, as well as improvements in execution quality.^[1187] The Commission also stated that the amendments to Rule 605 will result in initial and ongoing compliance costs, the majority of which will be related to expanding the scope of reporting entities to include larger broker-dealers, but a significant portion of which will result from the need for market centers to update their systems to process and store the data necessary to prepare the amended reports.^[1188]

D. Benefits, Costs, and Other Economic Effects

The Commission expects the adopted minimum quoting increment will alleviate tick constraints and better allow prices to be determined by the forces of supply and demand, lowering transaction costs for investors. A lower access fee cap will further reduce the transaction costs of liquidity demanders in the predominant maker-taker structure. Making fees and rebates determinable at the time of trade may enhance broker-dealer order routing by helping mitigate a potential conflict of interest and providing clarity in terms of all in execution costs. Accelerating the inclusion of odd-lot information into the exclusive SIPs, accelerating the implementation of the round lot definitions, and amending the definition of odd-lot information to include the best odd-lot order, will accelerate some of the benefits of the MDI Rules, and could also lead to better order execution by enhancing benchmarking. The amendments will also impose compliance costs on various market participants.

The Commission continually monitors the national market system and the operation of Federal securities laws. As discussed above, the national market system continually changes and the Commission, consistent with its oversight of the national market system, will monitor the impact of the adopted rules. With regard to the amendments adopted herein, by May 2029 (three years from the last implementation date), Commission staff will review and study the effects of the amendments in the national market system. Such a review and study might include, but would not be limited to, an investigation of: (i) general market quality and trading activity in reaction to the implementation of the variable tick size, (ii) the reaction of quoted spreads to the implementation of the amended access fee cap, and (iii) changes to where market participants direct order flow, e.g., to exchange versus off-exchange venues, following the implementation of the amendments.

In studying the effect on market quality, a number of different metrics could be examined including quoted, realized, and effective spreads; cumulative depth from the midpoint across multiple price levels; and the cost of a round-trip trade for various trade sizes.^[1189] In such analysis, improvements in market quality for stocks affected by Rule 612 would correspond to reduced spreads (adjusting for fees or rebates) or a reduced cost of a round-trip trade.^[1190] To isolate the effect of Rule 610, the analysis might focus on those stocks not directly affected by Rule 612. Such analysis might focus on the effect of Rule 610 on quoted spreads ( e.g., to examine how the quoted spread adjusts in response to changes in fees and rebates), on whether Rule 610 leads to any change in effective spread off-exchange (due to adjustments to on-exchange quotes), and on any migration of liquidity off-exchange.

1. Modification of Rule 612 To Create a Half-Penny Tick

The Commission is adopting amendments to Rule 612 that introduce one minimum pricing increment that is less than $0.01, i.e., $0.005, for quotes and orders priced $1.00 or more for NMS stocks that have a TWAQS of $0.015 or less during the evaluation period.^[1191] Hence, the amendments to Rule 612 will create a smaller tick size for some NMS stocks.

The Commission expects that, on average, market quality will improve for the stocks receiving the smaller tick size. A smaller tick has two competing effects on market quality. First, a smaller tick leads to pricing that more effectively balances liquidity supply and demand, limiting distortions, and thus lowering transaction costs. Second, a smaller tick fragments liquidity in the order book into more price levels, which can increase complexity associated with implementing trades, and increases the incidence of pennying ^[1192] —effects that can harm liquidity. A smaller tick can also increase message traffic which can be costly for market participants. The amendments will not change the tick for NMS stocks priced below $1.00, nor for stocks with time weighted average quoted spread always greater than $0.015 during an Evaluation Period and thus the tick size amendments are expected to have minimal if any effect on the trading environment for these stocks.

a. Estimates of Percent of Trading Volume and Number of NMS Stocks Affected

As discussed in section VII.C.1, prior to these amendments, the tick size for orders in NMS stocks priced equal to or greater than $1.00 was $0.01, and the tick size for orders in NMS stocks priced less than $1.00 was and remains $0.0001.^[1193] The amendments assign each NMS stock to one of two tick sizes: $0.005 or $0.01, depending on the stock's time weighted average quoted spread during an Evaluation Period (specifically, assigning $0.005 for stocks with a TWAQS of $0.015 or less).^[1194] Table 7 presents estimates of the amount of share and dollar trading volume that would have been associated with the two tick sizes, as well as the sub $1.00 tick size, based on 2023 trading volumes. It also presents estimates based on the Proposal which would have reduced tick sizes for stocks with TWAQS of $0.040 or less.

( print page 81704)

Table 7—Estimated Number of Stocks and Trading Volume in Each Tick Size Group  ^a

Average quoted spread	Tick	Number of stocks	Estimated % share volume	Estimated % dollar volume
All Stocks
Spread <= $0.015	$0.005	1,788	66.2	42.9
$0.015 < Spread	$0.01	9,047	33.8	57.1
Spread <= $0.04	(Proposed Reduction to $0.005 or smaller)	4,333	84.8	66.5
Price < $1
	$0.0001	1,106	12.3	0.1
a  In this table, quoted spreads, and thus tick sizes, are determined by computing the time weighted quoted spread during regular trading hours as computed by the WRDS intra-day indicators for every sym_root and sym_suffix combination in the WRDS intra-day indicators dataset and taking the equal weighted average across all trading days in January-March 2023. Stocks with average quoted spreads less than $0.015 are assigned a $0.005 tick. All other stocks are assigned a $0.01 tick. A stock with a price less than $1.00 will still be assigned a tick size per the usual process, which would be in force should the stock's price rise above $1.00. As long as the stock's price remains below $1.00 the $0.0001 tick size would prevail. The designated tick size is applied to trading volume in May-October 2023 where share and dollar volume is obtained from the universe of stocks in WRDS intra-day indicators. New stocks are given a tick size of $0.01. The number of stocks assigned to each group is indicated in the Number of Stocks column and indicates the average number of stocks in each category (listings and de-listings can affect the daily number of stocks trading as well as if a stock's price falls below $1). If a stock has a VWAP of less than $1.00, then that stock, as well as all of its trading volume for that day, is assigned to the $0.0001 tick size.
This estimate may be an upper bound. As discussed in section VII.B.3, supra and infra section VII.D.2, rebates can lower the quoted spread (although not necessarily transaction costs). Thus, lowering the access fee, and thus the associated rebates, may lead to wider quoted spreads. Because of this, some stocks may have quoted spreads that meet the threshold for the smaller tick size in the current environment but may not meet that threshold once the access fee cap is reduced, leading to lower rebates offered. Additionally, all stocks, even those priced below $1.00, will be assigned a tick size via the usual process. If a stock price falls below $1.00 the applicable tick size will be $0.0001. So not all stocks initially assigned the $0.005 tick size will trade differently than the baseline. This table differs from table 3 because table 3 is based on daily average TWAQs and does not attempt to analyze the effect of the adopted amendments.
Once implemented, the changes to the current arrangements for consolidated market data pursuant to the MDI Rules may impact the number of stocks and their estimated percentage volumes anticipated for each tick level. In particular, under the MDI Rules, NMS stocks priced $250 or more will receive reductions in round lot sizes which is anticipated to lower their quoted spreads; however, the effect on the reported numbers is likely small both because these stocks make up less than 4% of share volume and because they are unlikely to have quoted spreads less than $0.015. Based on an analysis of data from May-October 2023, the average quoted spread of a stock priced between $250 and $1,000 was $0.71, far greater from the $0.015 that will trigger a smaller minimum increment. Similarly, for stocks priced between $1,000 and $10,000 the average quoted spread was $3.85 and the only stock that had a value weighted average price greater than $10,000 already has a round lot size of one share and had an average quoted spread of $0.07.

Table 7 indicates that, had the amendments been in place in 2023, approximately 66% of share volume and 43% of dollar volume, associated with an estimated 1,788 individual stocks, would likely have been assigned the $0.005 tick size. The adopted Rules represent a significant reduction in the scope of the Rule compared to the proposal. Table 7 provides estimates of the number of stocks and volume that would have been affected if the Commission had implemented the Rule with the tick size thresholds as proposed (the proposal would have lowered the tick size for all stocks with TWAQS less than $0.04). The Commission estimates that there would have been 4,333 stocks receiving a smaller tick accounting for 84.8% (66.5%) of share (dollar) volume if all stocks with a TWAQS less than or equal to $0.04 received a smaller tick size. Consequently, the number of stocks receiving a lower tick size is more than halved under the adopted amendments.

b. Effects on Market Quality

For the stocks that will receive the $0.005 tick, the Commission expects market quality to improve. Smaller tick sizes present a market quality tradeoff between increasing pennying and complexity concerns—which can harm market quality—and reducing pricing constraints—which can improve market quality by reducing pricing distortions leading to an oversupply of liquidity relative to competitive levels. The Commission believes that market quality will, on average, improve for stocks receiving the smaller tick based on theoretical discussion, the Commission's empirical analysis, as well as evidence and opinions expressed by commenters. For example, one commenter agreed with the presence of market distortions under current tick sizes, stating: “[t]he SEC correctly describes the problem of tick-constrained securities. Such securities are `not able to be priced by market forces' because the current `rule 612 minimum pricing increment of $0.01 may now be too large for certain stocks, which, in turn, results in the pricing of such stocks being artificially constrained.' Trading in these securities would be improved `if competitive market forces could establish prices in sub-penny increments, which could reduce quoted spreads,' allowing these securities to `be priced more aggressively within the spread.' ” ¹¹⁹⁵

The theoretical discussion provided below supports characterizing a smaller tick size as providing a pennying/complexity versus pricing constraint tradeoff, and the empirical analysis presented in table 8 as well as other empirical research suggests that, for stocks with fewer than approximately two ticks intra-spread,^[1196] a reduction in the tick size on average improves market quality. A number of commenters agreed, and some commenters presented analyses suggesting that 2 to 4 ticks intra-spread may be optimal. Combined, this evidence suggests that the tick size reduction associated with these amendments will, on average, improve ( print page 81705) market quality for the subset of stocks receiving the lower tick size.^[1197]

i. Theoretical Discussion

Tick sizes present an economic tradeoff.^[1198] All else equal, reducing the tick size improves market quality by reducing distortions associated with markets not being able to set prices that equate liquidity supply and demand in the presence of a discrete pricing grid.^[1199] In a competitive market, and in the absence of rebates or other price distortions, the prevailing bid or ask price will be the feasible price equal to or just worse than the price that equates supply and demand for the underlying asset.^[1200] This is because liquidity providers will not post bids and offers that would result in guaranteed trading losses— i.e., they will not post prices that do not bring in sufficient revenue to cover their marginal cost of providing liquidity.^[1201] Since there is competition along a finite pricing grid, they choose the closest feasible price just worse than the competitive one. The gap between the feasible price and the price that equates liquidity supply and demand— i.e., the competitive price—is a price distortion allowing liquidity providers to earn rents on liquidity provision.

This pricing distortion is most relevant for stocks that are tick-constrained and diminishes as quoted spreads widen. To understand this, consider again the example of section VII.B.2. In that example, under a tick size of $0.005, the ask would be $10.015 and the bid $10.005. However, with a tick size of $0.01, the ask would be $10.02 and the bid $10.00, implying a spread that is twice as wide. Now assume that the same issuer reduced the number of shares so that the stock increases in price 100-fold, but the underlying economics are the same. To achieve the same reduction in spread would not require any change to the tick size: an ask of $1,001.50 and a bid of $1,000.50 are feasible even with a tick size of one penny.

While a smaller tick size increases competition, thereby reducing distortions and reducing transaction costs, there are potential costs raised in the proposing release and also by commenters which are discussed below.

Pennying: The proposing release and commenters identified pennying as a risk of a smaller tick which can harm market quality.^[1202] Pennying occurs when limit order providers get to the front of the queue by providing economically trivial price improvement. It reduces the importance of time priority.^[1203] The risk of being pennied could discourage liquidity provision in lit markets, particularly by market participants that are slower to respond to changes in market conditions and could increase transaction costs for these investors.^[1204] To compensate for additional costs associated with a fragmented order book, liquidity providers may post less aggressive quotes leading to wider quoted spreads and worse market quality.^[1205]

Market participants may respond to an increased risk of pennying by increasing their use of hidden or off-exchange orders that do not display prices, and thus avoid exposing the price needed to beat in order to get to the front of the queue and increase the likelihood of a fill.^[1206] Increased use of hidden orders has been associated with worse market quality outcomes.^[1207] Some commenters expressed their belief that a narrower tick and increased pennying could lead some orders that previously were at protected prices to be traded through.^[1208] However, it is not clear from the commenters' letters why this would occur given the order protection rule and broker's best execution responsibilities. One commenter also suggested that narrow ticks could increase volatility.^[1209] However, existing research on the topic would suggest, if anything, an opposite effect.^[1210]

In contrast to the tick size pricing distortion discussed above, which is most relevant for stocks that are tick-constrained,^[1211] the pennying effect will be most pronounced for stocks with wide quoted spreads because there are more intra-spread price levels and the cost of gaining priority over other liquidity providers, by updating the best price by a single tick, is lower with a smaller tick.^[1212] For example, a stock with a quoted spread of ten cents, and a $0.01 tick, will have 10 price levels within the quoted spread, whereas a stock with a $1.00 quoted spread and a $0.01 tick will have 100. Because price has first priority in order execution, in a price-time priority system where quote priority is awarded based on best price first and then arrival order second, a primary way to gain priority for a trader providing liquidity is to price-improve over existing orders. Without a small tick size relative to the quoted spread, getting to the front of the queue via price improvement will be more costly, requiring larger relative price concessions.^[1213] Because the (beneficial) pricing efficiency effect is greatest when quoted spreads are narrow, whereas the (detrimental) pennying effect is greatest when quoted spreads are wide, this ( print page 81706) analysis suggests setting a minimum quoting increment on the basis of average spread. Commenters agreed.^[1214]

Fragmenting liquidity: The proposing release and commenters also discussed a cost of a lower tick size as spreading the displayed orders over more price levels.^[1215] When tick increments are farther apart, all else equal, liquidity providers that may have various prices at which they are willing to provide liquidity must congregate their quotes at only the available quoting increments. Thus, there will be more depth at each level including at the NBBO. With more price levels due to a smaller tick size, market participants can more accurately tailor their quotes to the prices at which they are willing to provide liquidity and thus liquidity will naturally spread over more levels and there will be fewer resting orders at each price level, including the NBBO.^[1216]

Fragmenting liquidity across multiple price levels may decrease costs associated with smaller orders, which would be able to source liquidity at improved prices due to a finer price grid.^[1217] However, it can increase the complexity and cost associated with sourcing liquidity for larger orders,^[1218] as the reduction in shares available at the top of the book will render it more likely that a market participant must source liquidity beyond the NBBO in order to execute a trade.^[1219] It could also increase the number of child orders a parent order needs to be divided into to execute, which could increase the overall complexity and likelihood of information leakage leading to increased transaction costs via increased price impact.^[1220]

Quote Instability: Commenters also stated that less depth at the NBBO can lead to increased NBBO quote instability as trades are more likely to deplete depth at the NBBO prices. ^[1221] One commenter presented evidence that lower quote stability is empirically associated with increased market making costs, which it states may deter liquidity provision.^[1222] While increased quote instability may occur in stocks receiving the lower tick, the lower tick itself will allow market forces to adjust the price of liquidity— i.e., the quoted spread—such that market makers are competitively compensated for the risks associated with providing liquidity. Increased instability in the NBBO could make it more difficult to determine which exchange has the best price at a given point in time and thus where to route an order.^[1223] This could be particularly true when markets are volatile.^[1224]

Increasing (or decreasing) rents to speed: The Proposing Release stated that “too small ticks may inefficiently award speed”.^[1225] As discussed in the next few paragraphs, commenters also commented on the effects of tick size on speed. Investments in speed are a fixed and largely irreversible cost that some market participants choose to incur. Changing the tick size could change the profitability of such investments, that is, they could increase or decrease the rents to speed. As noted in section VIII.B.2, a narrower tick reduces rents that accrue when a liquidity provider can be first in line in a queue.^[1226] That is, narrowing the tick would be expected to reduce rents to speed. However, speed confers an advantage in implementing a pennying strategy: a trader can not only step ahead of another trader, but also potentially sell (or buy) an asset back to the other trader if the market moves unfavorably, replicating an option-like payoff.^[1227] The amendments are limited to stocks with spreads for which pennying is unlikely to be a dominant effect. Nonetheless, to the extent that pennying increases, it has the potential to increase the rents to speed.

In the context of the proposal, one commenter stated that a smaller tick size would be expected to increase the frequency of sniping because smaller ticks generate faster and more frequent price changes.^[1228] While there will be more prices at which to trade, the underlying information is not changing (prices may change more rapidly, but the information of each price change is smaller). That is, sniping may become more frequent, but the profits per each individual snipe attempt would decline. However, and as stated above, the Commission does agree that a large number of ticks within the spread can make pennying more prevalent, and to the extent that profits are linked to speed, can increase the rents to speed. The adopted amendments imply fewer ticks intra-spread than the proposing amendments, reducing this effect. Thus, the Commission does not expect slower traders to be disadvantaged by the adopted amendments.

Effect on thinly traded securities: One commenter stated that narrower quoted spreads due to a smaller tick would be harmful for liquidity, particularly for smaller and medium-sized companies and for thinly-traded securities.^[1229] This is because narrower quoted spreads would discourage some liquidity providers from entering the market. The Commission disagrees with this ( print page 81707) characterization. The academic research on the Tick Size Pilot (TSP), which increased the tick size for some smaller stocks from $0.01 to $0.05 between 2016 and 2018, suggests that for many stocks affected by the TSP, particularly those with narrower quoted spreads, the TSP led to worse market quality.^[1230]

Additionally, lowering excess rents and the oversupply of liquidity caused by tick size induced pricing distortions is likely to reduce aggregate depth across all price levels. However, this reduction is unlikely to be harmful to overall market quality, even for smaller or thinly traded securities, as it would relieve a distortion resulting in an oversupply of liquidity. As the amount of liquidity provision comes closer to equilibrium levels, quoted spreads narrow and queue lengths shorten, lowering transaction costs and increasing the likelihood that relatively slower fundamental and/or retail traders could interact with each other. This will reduce total transaction costs for these traders because one side would be earning the quoted spread on the transaction.^[1231]

ii. Empirical Analysis

This section presents the Commission's empirical analysis, as well as a discussion of commenter analysis and views concerning the effect of a tick size reduction on various aspects of market quality. Based on these analyses, the Commission concludes that on average, stocks that receive the smaller $0.005 tick size will experience improved market quality—implying that, for these affected stocks, the predominant market quality effect of the smaller tick size will be an increase in pricing efficiency.^[1232]

The academic literature examining the effect of tick sizes on financial markets largely studies two events: decimalization, which occurred in 2001 ^[1233] and reduced the tick from 1/16 th of a dollar ($0.0625) to $0.01; and the TSP, which ran from October 2016 to October 2018 and temporarily increased the minimum tick increment from $0.01 to $0.05 for a sample of small cap stocks.^[1234] Most of the literature surrounding decimalization suggests that, on average, decimalization was associated with a decline in quoted spreads consistent with the notion that lowering the tick size relieved distortions related to having a tick size that is too wide.^[1235]

In the Proposing Release, the Commission supplemented existing research with its own analysis on the TSP.^[1236] As stated in the Proposing Release, market dynamics have changed dramatically in the more than two decades since decimalization. Most notably over that period, electronic, algorithmic, and high-frequency trading have come to dominate the trading landscape, whereas they were much less prominent in 2001. These changes diminish the relevance of evidence from these prior periods, making it desirable to supplement existing studies with evidence that is closer in time.

Some commenters questioned using the TSP to estimate the effects of a reduced minimum pricing impact because the TSP affected only a subset of small cap stocks, did not contain ETPs, and did not affect access fee caps.^[1238] One of those commenters suggested that the TSP analysis was not applicable because it focused on stocks with quoted spreads much wider than the few cent quoted spreads contemplated by the amendments.^[1239] The same commenter suggested that the TSP was not applicable because it applied to a 5 to 1 tick size change, which is different from the tick size change in the amendments.^[1240] Some commenters went further and questioned whether anything could be learned from the TSP because it did not involve sub-penny tick sizes.^[1241]

As explained in the following discussion, the Commission continues to believe that the TSP provides a meaningful environment to study the potential effects of a tick size change for the reasons articulated below, even as the TSP has limitations for determining the exact effect of the amendments to Rule 612.

First, the economics of being tick-constrained do not depend on the absolute size of the tick in question. Rather, they depend on the relationship between the economic spread ^[1242] implied by the economics of the stock and the quoted spread that is possible given the tick size, regardless of the specific tick size. Specifically, when the economic spread is narrower than a single tick, the negative effects of being tick-constrained are expected to emerge for the reasons discussed in section VII.D.1.b.i above.^[1243] Those reasons are independent of the absolute size of the tick. They instead depend on the ratio of the market price of liquidity to the tick, i.e., the lowest quoted spread permitted by the tick size. In this context, the TSP analysis has merit, even as it includes some stocks with quoted spreads wider than 1.5 cents (the cutoff for the amendments), because its purpose is to gain insight into how stocks with various numbers of tick increments intra-spread react to changing the tick. Addressing this question necessitates considering stocks with wider quoted spreads.

Second, as discussed above, a key factor in the economics of being tick constrained is the implied quoted spread relative to the tick size, not the market capitalization or any other the qualifying factors for the TSP. Because the economics of being tick-constrained do not depend on market capitalization, the findings derived from the TSP can be usefully applied to a broader section of the market. Also, one study,^[1244] referenced in the Proposing Release, specifically examined only the most ( print page 81708) liquid TSP stocks and removed stocks with very low prices.^[1245] The authors' results indicate that, in this subset of the most liquid TSP stocks, all key findings of the TSP not only hold, but that the patterns of the results of the TSP on market outcomes tend to strengthen.

Third, while the Commission acknowledges the difference between the TSP and the amendments with regard to tick size splits—the TSP was a 1:5 tick size change while the amendments provide a 1:2 tick size change for some stocks—the TSP provides meaningful information about the likely direction of the effects due to a tick size change: that is, whether market quality improves or declines when the tick size is changed. The actual effect of a 1:2 split may differ from that observed from the TSP's 1:5 split, but it is unlikely to go in the opposite direction if the TSP were to indicate a market quality improvement when the tick size is reduced. This is because the potential negative effects of too many ticks intra-spread would be stronger for the 1:5 split associated with the TSP than with the 1:2 split associated with the amendments.^[1246] Thus, it is unlikely that, were the TSP to show an improvement in market quality associated with a 1:5 tick size split for certain stocks, that there would have been an opposite effect with a 1:2 tick size split.

Some commenters stated that reducing the tick size below $0.01 was opposed to the conclusions and analysis provided by the Commission when adopting Rule 612 in 2005, and that the Commission did not provide analysis explaining why it was reversing its opinion.^[1247] The Commission disagrees that the analysis and conclusions associated with the initial proposal and adoption of Rule 612 are inconsistent with the analysis provided in the Proposing Release and repeated here. When initially proposing and adopting Rule 612, the Commission acknowledged that lowering the tick size from fractions to $0.01 improved the trading environment.^[1248] It also expressed concern, as stated by commenters, that further reducing the tick size for all stocks could harm market quality via pennying and reduced liquidity at the top of the book.^[1249] When originally proposing Rule 612, the Commission also provided an analysis of sub-penny trading and quoting and stated that there was, at the time, no industry standard for trading and quoting increments.^[1250] The Commission's sub-penny analysis suggested that, at the time, sub-penny trading was primarily used to facilitate pennying because sub-penny trades congregated at $0.001 and $0.009 rather than having a uniform distribution or clustering midpoint prices ( i.e., in $0.005 increments), justifying the use of some minimum pricing increment.^[1251]

When adopting Rule 612, the Commission did not empirically analyze whether a minimum pricing increment of $0.005 would have harmed or helped market quality for some stocks, and specifically did not opine on a tiered tick structure such as is being adopted. The analysis provided therein was in the context of a uniform tick size applicable to all stocks. Within this context, the Commission concluded that “the marginal benefits of a further reduction in the minimum pricing increment [below $0.01 for all stocks] are not likely to justify the costs to be incurred by such a move” ^[1252] The analysis provided in this release does not disagree with that assessment. Applying a tick size lower than $0.01 for all stocks could cause harm to stocks with wide quoted spreads due to pennying concerns and fragmenting liquidity.

Additionally, the need to address tick-constrained stocks has increased substantially in the subsequent nearly two decades as tick constraints have become more pervasive over time. Table 3 indicates that in 2023, about 74% of share volume was associated with securities trading with quoted spreads at or below $0.015; following the same methodology, in 2005 the figure was about 54%.^[1253] This statistic understates the true increase in trading in tick-constrained securities because overall average daily trading volume has more than doubled over the same period of time.^[1254] Thus, precisely because average quoted spreads have been coming down, the benefits of alleviating the tick constraint have increased substantially since 2005. Additionally, as discussed throughout this section, there has been considerable research since the implementation of Rule 612 in 2005 by the Commission, industry members, and academics surrounding tick sizes that did not exist when Rule 612 was adopted. This research supports the notion that a tick size below $0.01 will likely improve market quality for some stocks.

One commenter illustrated its disagreement with the Commission's use of the TSP analysis by presenting a hypothetical TSP in which the tick size is increased from $0.01 to $0.15.^[1255] The commenter stated that such a change “would have negatively impacted a greater range of stocks . . . and predictably liquidity conditions in those stocks would have meaningfully improved at the end of the pilot when the changes were reversed.” ^[1256] The commenter proceeded to state that “this experiment would not suggest that regulators should always reduce the minimum quoting increment for tick-constrained symbols by a factor of fifteen. ” ^[1257] The commenter further stated that the TSP “merely reverted to the status quo after a failed experiment”, and this “reversion provides no information on what would be expected to occur if minimum quoting increments were further ( print page 81709) reduced to levels that have never before been tested.” ^[1258]

The Commission disagrees with this assessment in several respects and continues to believe that analysis of the TSP provides meaningful information for the effects of the amendments. The TSP enables analysis that empirically tests whether market quality depends on being tick-constrained. The TSP provides two events that can be used for this test: one at the start of the TSP when tick sizes were increased for certain stocks, and one at the end of the TSP where tick sizes for those same stocks were decreased. Academic research shows that the effects of both of these events are consistent with the theory that stocks with few ticks intra-spread have worse market quality.^[1259] The Commission provided its own analysis of the end of the TSP; the end of the TSP involved a reduction in tick size, which directionally corresponds to what will happen under the adopted rule. This analysis found evidence to support the theory that stocks with too few ticks intra-spread have worse market quality. The Commission therefore disagrees that the TSP analysis “provides no information” as to the effects of the adopted rules.

The commenter states that “the end of the Tick Size Pilot provides no basis for suggesting that regulators should always reduce the minimum quoting increment for tick-constrained symbols by a factor of five.” The Commission does not reach the conclusion that regulators should always reduce the minimum quoting increment by a factor of five, and indeed the Commission is not adopting such a rule. As discussed earlier in this section, TSP analysis indicates that for stocks with 1-2 ticks intra-spread, reducing the tick size improves market quality on average. While the Commission is reducing the tick size by a factor of two rather than five for some stocks, the direction is likely to be the same as what was observed in the TSP, though the magnitude may be different.^[1260]

Furthermore, the commenter assumes in the hypothetical experiment of a bigger increase in the tick size, that this increase would have “negatively impacted” stocks. However, the fact that causing stocks to become tick-constrained worsens their market quality is an assumption made by the commenter. Absent evidence, such as the evidence provided by the TSP, it is unclear upon what the commenter bases this assumption. The ability to make this inference, that being tick-constrained worsens market quality, is precisely why analyzing the TSP is valuable because it provides the empirical result which permits one to employ with confidence the commenter's assumption in its hypothetical.^[1261]

With regard to the commenter's statement that the TSP conclusion “provides no information on what would be expected to occur if minimum quoting increments were further reduced to levels that have never before been tested,” ^[1262] while it is true that the tick sizes in the adopted amendments are not among the tick sizes implemented in the TSP, this fact does not render the TSP analysis uninformative. The theory that stocks that are tick-constrained will trade better with more ticks intra-spread, successful as it was in predicting the market quality effects of the end of the TSP, can be reasonably relied upon to help determine the effects of the amendments. What matters is not the magnitude of the spread, or the size of the tick, but the number of ticks intra-spread.^[1263]

One commenter stated that the analysis in the Proposing Release should have accounted for both fixed effects and volatility, as well as other variables.^[1264] Barardehi et al. (2022) provide estimates that account for fixed effects and a number of control variables including volatility.^[1265] This paper shows that the results shown in the Proposing Release and repeated below are robust to these effects.

Commission Empirical Analysis: The Proposing Release provided a review of the existing TSP empirical academic research.^[1266] This research consistently found that stocks that became tick-constrained by the TSP, on average, traded better across many market quality dimensions when their tick size was reduced from $0.05 to $0.01. Some analysis also showed that some stocks with wide spreads traded better with the $0.05 tick than with the $0.01 tick. The empirical analysis in the Proposing Release sought to identify the thresholds where the TSP tick size change transitioned from harmful, to benign, to beneficial. Specifically, table 8 provides analysis that examines the impact of the end of the TSP on a wider range of quoted spread profiles than simply tick-constrained or not. This analysis focuses on the end of the TSP, when the tick size was reduced from $0.05 back to $0.01, because that event more closely matches the amendments, which reduce the tick size.

The analysis presented in table 8 uses a difference-in-differences methodology to study the effect of lowering the tick size from $0.05 to $0.01 on TSP stocks at the end of the TSP.^[1267] TSP treated and control stocks are assigned near the end of the TSP into one of four bins ranging from the most tick-constrained in the first bin to the least constrained in the fourth bin.^[1268] Key variables such as quoted depth and spreads were measured before and after the tick size was lowered, and difference-in-differences estimation methods were ( print page 81710) used to examine how these variables reacted to the tick size change. The analysis uses ordinary least squares ^[1269] and quantile (median) regressions ^[1270] to estimate the following regression model: ^[1271]

Y_j,t= α₀+ α_pPilot_j+ α_EEvent_t+ β(Pilot_j× Event_t) + _j,t

where the quantile regression optimizes: ^[1272]

Table 8—Effects of a Reduction in Tick Size on Quoting and Trading Outcomes  ^a

Spread bin #	OLS				Quantile (median) regression
	Quoted spread ($) May & June 2018				Quoted spread ($) May & June 2018
	1st	2nd	3rd	4th	1st	2nd	3rd	4th
Depth (100 shares)	*** −22.5 [−12.02]	*** −5.30 [−7.09]	*** −1.55 [−4.40]	−0.51 [−1.30]	*** −11.8 [−16.99]	*** −3.16 [−23.52]	*** −0.96 [−17.81]	*** −0.21 [−4.30]
Depth ($1,000)	*** −16.7 [−14.58]	*** −8.41 [−10.94]	*** −4.67 [−7.82]	*** −2.06 [−3.66]	*** −11.2 [−22.04]	*** −7.27 [−20.70]	*** −3.96 [−12.58]	*** −1.48 [−4.14]
Quoted Spread ($)	*** −0.033 [−18.71]	*** −0.027 [−6.46]	*** 0.023 [2.99]	*** 0.12 [5.51]	*** −0.034 [−35.41]	*** −0.031 [−10.31]	** 0.012 [2.03]	*** 0.12 [6.80]
Relative quoted Spread	*** −0.0049 [−9.59]	* −0.00097 [−1.80]	0.00034 [0.53]	*** 0.0046 [3.30]	*** −0.0041 [−8.54]	*** −0.0014 [−6.89]	0.00021 [0.74]	*** 0.0034 [4.66]
Effective spread ($)	*** −0.027 [−4.97]	−0.026 [−1.43]	*** 0.029 [5.17]	** 0.038 [2.16]	*** −0.026 [−58.10]	*** −0.021 [−12.81]	−0.0018 [−0.63]	*** 0.051 [4.81]
Relative eff. spread	*** −0.0039 [−3.12]	0.00043 [0.17]	0.0055 [1.36]	*** 0.0028 [4.42]	*** −0.0030 [−10.78]	*** −0.0010 [−9.58]	−0.00013 [−1.09]	*** 0.0016 [3.23]
Cancel-to-trade	*** 5.10 [5.99]	*** 6.69 [6.38]	*** 7.56 [6.79]	*** 18.8 [8.84]	*** 4.56 [7.75]	*** 5.49 [7.79]	*** 6.87 [10.44]	*** 12.3 [10.61]
Odd-lot rate (%)	*** 4.89 [9.62]	*** 5.61 [8.04]	*** 2.85 [4.35]	** 1.49 [2.15]	*** 5.59 [8.02]	*** 6.39 [8.99]	*** 3.29 [4.72]	** 1.85 [2.51]
Realized spread ($)	*** −0.014 [−27.94]	*** −.0099 [−7.43]	.00037 [0.12]	*** 0.040 [4.45]	*** −0.014 [−48.36]	*** −0.013 [−17.96]	*** −0.0068 [−5.13]	*** 0.038 [5.64]
Relative real. spread	*** −.0024 [−11.82]	−.00032 [−1.36]	−.00039 [−1.25]	** .0014 [2.37]	*** −.0014 [−14.08]	*** −.00054 [−12.52]	*** −.00013 [−2.77]	*** .0012 [3.65]
Volume (1,000 shares)	26.5 [1.30]	** 30.3 [2.13]	12.5 [1.32]	−5.41 [−1.07]	19.1 [1.42]	3.35 [0.40]	0.20 [0.04]	** −3.25 [−2.44]
Cum Depth 10c from mdpt	*** −0.17 [−3.93]	*** −0.26 [−5.00]	** −0.27 [−2.59]	** −0.34 [−2.37]	*** −0.49 [−5.51]	*** −0.54 [−6.29]	*** −0.45 [−4.91]	** −0.63 [−3.15]
Cum Depth −10c from mdpt	*** −0.22 [−5.28]	*** −0.19 [−3.74]	*** −0.37 [−3.44]	** −0.45 [−2.83]	*** −0.49 [−6.33]	*** −0.42 [−5.21]	*** −0.50 [−5.68]	** −0.79 [−2.75]
CRT 10 round lots	*** −0.026 [−19.56]	−0.001 [−0.19]	*** 0.035 [3.99]	*** 0.14 [1.03]	*** −0.037 [−2.72]	*** 0.085 [2.75]	*** 0.035 [4.20]	** 0.075 [2.37]
a  This table presents the effects of a reduction in minimum tick size from $0.05 to $0.01 cent on various quoting and trading outcome variables. The first bin is for stocks with quoted spreads ($0.00, $0.06). The second bin is for stocks with quoted spreads in the range ($0.06, $0.09). The third bin is for stocks that had quoted spreads of ($0.09, $0.15). The fourth bin is for stocks with quoted spreads greater than $0.15. A difference-in-differences regression with no control variables is estimated using data covering Control, Test Group 2, and Test Group 3 TSP stocks from 08/01/2018-11/30/2018. All observations are at the stock day level. For each outcome variable Yjt, listed in the left-hand side column, the table presents only the difference-in-differences coefficient estimates that indicate the effect of the TSP on the dependent variable. Estimates are performed by past quoted spread subsamples that decompose the sample based on average quoted spreads during May-June of 2018. Among the outcomes' variables, the quoted spread refers to the distance between the NBBO midpoint and the NBBO quote. The effective spread is the distance between the NBBO midpoint and the realized trade price; the realized spread is the distance between a future NBBO midpoint (5-minutes ahead) and the trade price. Relative spread measures are calculated as the spread scaled by the NBBO midpoint. The cancel-to-trade ratio is the daily number of order cancellations divided by the number of trades, for displayed orders. The odd-lot rate is the percentage of trades in a day which executed against an odd-lot quote. CRT 10, or the cost of a round-trip trade of 10 round lots, measures the cumulative transaction costs from buying and then immediately selling 10 round lots. The CRT assumes that an order that is larger than the displayed depth at the best price will not execute in full at that price. Instead, the assumed unfilled portion will execute at worse prices until completely filled with displayed depth. All data are Winsorized at the 1% and 99% level. The numbers in the [ ] brackets reflect t-statistics that are based on two-way stock-and-date clustered standard errors. Symbols *, **, and *** reflect statistical significance at 10%, 5%, and 1% type-1 error levels.

As discussed in the Proposing Release, this analysis provides evidence of a fundamental tradeoff between accurate pricing on one hand and incentives for liquidity provision on the other. Across all specifications, the end of the TSP was associated with a decrease in depth at the NBBO, when the tick size was reduced from $0.05 to $0.01, as signified by the negative and, in most cases, statistically significant coefficients reported. The reduction in shares available at the NBBO was the greatest for stocks with tighter quoted spreads and smaller for stocks with wider quoted spreads. The finding that tighter quoted spread stocks experience the greatest decline in depth at the ( print page 81711) NBBO is consistent with the idea that, for these stocks, the $0.05 tick was the most constraining, and so liquidity that would have naturally spread out within the quoted spread given a smaller tick, bunched at the wider tick increments, and that once the tick-constraint was relaxed this liquidity naturally spread out over the additional price levels. For less tick-constrained stocks, the bunching was less severe since liquidity already had some room to spread out.

One commenter stated that the Commission did not provide any analysis of the effect of the proposal on displayed liquidity and liquidity deeper in the book, including with respect to less liquid securities and during times of market stress.^[1273] The Proposing Release did examine the effect of a tick reduction on displayed liquidity and cited academic literature for further analysis.^[1274] The same commenter stated that reducing the tick as presented in the proposal would reduce depth at the NBBO by more than 82%.^[1275] The Commission acknowledges that, given the magnitude of the reduction in the proposal, it is conceivable that such a reduction could have occurred for some stocks. Barardehi et al. (2022) document that depth at the NBBO was 50% lower with the $0.01 tick compared to the $0.05 tick. However, this was only true for tick-constrained TSP stocks. For stocks with wide quoted spreads, depth was only about 16% lower with the smaller tick size. The TSP was associated with a 1:5 tick size split, and the proposal that the commenter was commenting on would have created a 1:10 split for some stocks relative to the baseline. In contrast, the adopted amendments create a smaller split than either a 1:5 or a 1:10 split. The Commission does expect depth at the NBBO to decrease for stocks receiving the smaller tick size with the TSP analysis providing a likely higher end estimate of the magnitude of the decrease since the TSP was a bigger change to the baseline than the adopted amendments.

For stocks in the first or second bins, table 8 demonstrates that lowering the tick to $0.01 leads to significantly lower quoted spreads. These stocks went from having approximately 1-2 ticks inside the quoted spread, with a $0.05 tick, to having 1-10 ticks inside the quoted spread, with a $0.01 tick. This finding is consistent with the idea that for stocks that are tick-constrained the effect of decreasing the tick size will narrow quoted spreads by improving competition. For the stocks in the third and fourth bins, the story is different, as the reduction in the tick size leads to wider quoted spreads. These stocks went from having more than two or more ticks within the quoted spread, with a $0.05 tick, to having more than 10 ticks within the quoted spread, with a $0.01 tick. This result is consistent with the idea that for wider quoted spread stocks, the prevailing effect of reducing the tick size was to increase transaction costs and widen spreads by fragmenting liquidity and increasing the risk of pennying which made trading more costly leading to wider quoted spreads. This pattern of results—namely narrower spreads for the first and second bins and wider spreads for the fourth—holds regardless of whether dollar spreads, relative spreads, OLS, or quantile regressions are used, suggesting this is a robust outcome of the end of the TSP.

The pattern for effective spreads is similar to that observed for quoted spreads. Effective spreads measure the average realized transaction cost for trades as it measures the absolute distance between the realized trade price and the NBBO midpoint at the time of the trade. Effective spreads do not always equal quoted spreads because trades can execute inside the NBBO for numerous reasons, such as odd-lot trades, midpoint trades, and hidden orders. For stocks in bin one— i.e., stocks for which the $0.05 tick was the most restrictive—all specifications suggest that reducing the tick size was associated with a decrease in realized transaction costs as measured by effective spreads. For stocks in bin four, those with the widest quoted spreads prior to the tick size reduction, all specifications suggest that the reduction in the tick size leads to an increase in transaction costs, measured by effective spreads. For stocks in between these extremes in bins two and three, the results are not as uniform. For stocks in bin two, the sign of the coefficients for all estimates (dollar effective spreads, relative effective spreads, OLS, and quartile regressions) suggests lowering the tick size decreased effective spreads, although not all specifications agree as to statistical significance. The OLS regressions suggest that the effect was statistically insignificant, while the quantile regressions found a statistically significant effect and suggest that effective spreads decreased. For stocks in the third bin, the analysis did not find a consistent, statistically significant change in effective spreads, or in other words, moving from roughly two to three ticks within the spread to ten to fifteen ticks did not appear to reliably help or harm transaction costs as measured by effective spreads.

These results, like the results for quoted spread, suggest that for stocks for which the narrowing of the tick size meant that the stock went from having less than 2 ticks within the quoted spread to 1-10 ticks within the quoted spread, the effect of reducing the tick was beneficial in terms of reducing transaction costs. For stocks with very wide quoted spreads, reducing the tick size appeared to harm liquidity, which is consistent with fragmentation and pennying being the prevailing effect.

The theoretical discussion above suggests that executing a larger order may become more complex with a smaller tick size—meaning it may take visiting more venues as well as executing across more price levels to execute an order with a smaller tick size. This potential outcome is explored using the “cancel-to-trade” ratio. A higher ratio indicates more frequent canceling of orders per the amount of trading volume, and it is an indication that market participants are more active in managing their quotes and their order strategies. In this analysis, both the OLS and the quantile regressions confirm that a smaller tick resulted in a statistically significant increase in the cancel-to-trade ratio, suggesting more complexity. Additionally, the magnitude of the effect is increasing in the quoted spread, with wider quoted spreads having larger coefficients, suggesting a larger effect in the cancel-to-trade ratio for stocks with wider spreads. This pattern is consistent with pennying and increased complexity having a greater impact on stocks with wider quoted spreads. These stocks are unlikely to receive the smaller tick size under the adopted amendments.

The analysis also looks at the effect of lowering the tick size at the end of the TSP on the usage of odd-lot orders. Across all quoted spread bins, the usage of odd-lot orders increases when the tick size decreases. This finding is consistent with the notion that liquidity will be spread out over more levels leading to an increased use of odd-lot orders to allow liquidity providers to offer smaller levels of liquidity at finer price increments.^[1276] This result also suggests that a lower tick size increases the need for market participants to have ready access to odd-lot information given that the lower tick size can be expected to increase the usage of odd-lot quotes.

( print page 81712)

Effective spreads provide a measure of liquidity providers' revenue for the immediate execution of an incoming order and the contrasting economic effects also have implications for how liquidity providers' revenue will be affected by a lower tick. The effective spread captures the liquidity premium, paid by those submitting orders for immediate execution, and can theoretically be decomposed into two components: Effective Spread = Realized Spread + Price Impact.^[1277] One component of the effective spread is the price impact or adverse selection component. It is the change in the NBBO midpoint at the time of trade to some point in the future. This component of the effective spread captures the portion of the effective spread liquidity providers lose from trading with investors who are more informed than they are and is also referred to as the adverse selection component of the bid-ask spread. The remainder of the effective spread, after removing the adverse selection component, is the realized spread. This portion of the effective spread acts as a proxy ^[1278] for the compensation to the liquidity provider for its non-adverse selection costs. If a smaller tick decreases revenue for liquidity providers, by allowing bid and ask prices to more accurately reflect supply and demand, then this effect should manifest as a decrease in realized spreads for liquidity providers. However, if increased order book fragmentation and pennying risk increase the cost of providing liquidity, then liquidity providers will need to be compensated for these costs in order to provide liquidity and, thus, realized spreads will increase. To the extent that the two effects offset one another, realized spreads might not change.

For tick-constrained stocks in bin one, the analysis indicates a decrease in realized spreads across all specifications, and when using dollar or relative realized spreads when the tick size was reduced from $0.05 to $0.01. This result is consistent with the notion that liquidity providers' non-adverse selection revenues will decrease due to bid and ask prices being more reflective of supply and demand with a smaller tick. The opposite occurs for stocks with wide quoted spreads in bin four, where realized spreads increase significantly—consistent with liquidity providers needing to be compensated for the increased cost and complexity associated with trading a wide quoted spread stock in a small tick environment. For stocks in the middle two bins, the effect of lowering the tick size on realized spreads is unclear, as about half of the specifications indicate no change in realized spreads while the other half indicate lower effective spreads.

One commenter states that the Proposing Release did not address how the rule would affect institutional transaction costs, given that institutional traders frequently trade, and are concerned with sourcing larger quantities.^[1279] However, as considered here, and in the Proposing Release, the Commission considered multiple measures of depth beyond the NBBO, and Barardehi et al. (2022) also considers more. This depth beyond the top of the book analysis uses MIDAS data to study how the tick size change affected liquidity deeper in the book. Analyzing liquidity deeper in the book is valuable because it gives an indication of how trading larger orders, which must go deeper in the book to be fulfilled may be affected by a change in the tick size. Specifically this analysis calculates the daily average cumulative shares available at $0.10 above and below the midpoint for control and treated stocks, and uses the same difference-in-differences analysis to examine the effect of reducing the tick size on cumulative depth.^[1280] Our analysis suggests that reducing the tick size also reduced the total depth available deeper in the book with the coefficient for bin 4— i.e., those with the widest quoted spreads—being the largest in magnitude. This finding is consistent with a smaller tick discouraging the posting of displayed liquidity due to pennying concerns for stocks with wide quoted spreads.

These depth of book findings do not directly imply that trading deeper in the book became more expensive for two reasons. First, research suggests the use of non-displayed quotations increases significantly when the tick size is reduced.^[1281] Thus the decline in liquidity that we document is only a decline in displayed liquidity. Second, quotes tend to congregate at the price just worse than the quoter's desired price so that the quoter does not lose money on a transaction. When a wider tick is tightened, quotes that were previously congregated at the wide tick will spread out at prices better than the previous tick allowed. Thus, a market participant taking liquidity from multiple price layers in the order book to fulfill an order will have some shares that transact at superior prices than it would have with the wider tick.^[1282]

Table 8 also presents the effect of the TSP conclusion on the round-trip cost to transact a trade for 10 round lots (1,000 shares).^[1283] This analysis suggests mixed results for the effect of the tick size reduction on the cost of ( print page 81713) executing a 10-round lot trade. For bin 1 stocks, the total round-trip cost of a 10-round lot trade decreased when the tick size was lowered—suggesting an improvement in liquidity deeper in the book. For stocks in bin 2 ( i.e., less tick-constrained stocks), the effect was not clear. The OLS regressions suggested no effect, while the quantile regressions suggested an increase in trading cost. For stocks in bins 3 and 4 ( i.e., those that were not tick-constrained by the $0.05 tick), the effect of lowering the tick size was to increase transaction costs for larger trades. These results cohere with the idea that when stocks are tick-constrained the pricing efficiency made possible by a smaller tick improves liquidity, and for stocks with wider quoted spreads a smaller tick harms liquidity by making individuals less willing to post displayed liquidity due to complexity and the risk of pennying.

In conclusion, the analysis provided here suggests that, for stocks that were limited to just 1-2 ticks intra-spread by the $0.05 tick, the reduction to a $0.01 tick provided an improved trading environment. Thus, trading in an approximate 1-10 tick range intra-spread provided a superior environment to trading in a 1-2 ticks intra-spread range. One caveat here is that the analysis highlights a key tradeoff with a smaller tick for stocks with narrow quoted spreads. They tend to have less depth at the NBBO, but narrower quoted spreads. Thus, the total effect of this tradeoff on execution costs is largely a function of the size of the trade being implemented with smaller trades receiving improved terms while sufficiently large trades get worse terms with a narrower quoted spread. However, as discussed in greater detail in Barardehi et al. (2022), for tick-constrained stocks the point in terms of trade size at which a tick size reduction harms execution quality is quite large, around 50 round lots.^[1284] Additionally, for stocks with quoted spreads greater than $0.15, where a $0.01 tick implied more than 15 ticks intra-spread, a $0.05 tick where there were only 3 ticks intra-spread, appeared to provide a superior trading environment. For stocks with quoted spread between $0.10 and $0.15, it is not clear which tick size provided a superior trading environment.

In figure 2, data analysis shows how the quoted spread of a stock during the TSP (“pre-shock dollar quoted spread”) correlates with how investor transaction costs, as captured by effective spreads, changed when the TSP ended. For stocks with an average of fewer than two ticks intra-spread ( i.e., those with pre-shock quoted spreads of $0.10 or less), a reduction in tick size from 5 cents to 1 cent significantly reduces effective spreads.^[1285] For stocks with an average of more than three ticks intra-spread ( i.e., those stocks with pre-shock quoted spreads greater than $0.15), a narrower tick size increases effective spreads. These results are broadly consistent with the findings reported in table 8.

( print page 81714)

The Commission's results in table 8 provide useful information for predicting how the tick size reduction associated with the amendments may affect market quality for stocks priced at, or greater than, $1.00 per share and that receive the $0.005 tick size compared to the current baseline. For stocks with prevailing quoted spreads less than $0.015 there would generally be at most 1.5 ticks intra-spread with a $0.01 tick, or 3 ticks intra-spread with a $0.005 tick. The analysis in table 8 for bin one stocks suggests that 1-5 ticks intra-spread provides a better trading environment than does just one tick intra-spread.^[1286] Additionally, the results for bin 2 stocks suggest that moving from 1-2 ticks intra-spread to 5-10 ticks also generally improves market quality across most measures. In short, the TSP analysis suggests that stocks with fewer than 2 ticks intra-spread on average benefited from a tick size reduction. Consequently, this analysis provides support for the belief that reducing the tick size for stocks that generally have at most 1.5 ticks intra-spread is likely to improve market quality for these stocks. One concern discussed earlier in this section is that a reduction that is too aggressive could harm market quality by providing too many ticks intra-spread. However, the analysis provided in table 8 does not support this outcome since the Tick Size Pilot stocks in bin 1 and bin 2 still saw market quality improvements, implying that narrow tick concerns didn't yet dominate the effect on these stocks, it is unlikely that the smaller tick size reduction associated with this Rule would lead to small tick problems diminishing market quality.

Additional Sources of Information: Commenters also suggested additional settings to identify when stocks are trading with the optimal number of ticks intra-spread. One commenter suggested ( print page 81715) that the Commission should have considered the European Union's tick size approach, associated with MiFID II, which assigns one of over 20 variable tick sizes based on trading price and number of transactions per day, and Japan's tick size approach.^[1287]

One paper on the European experience cited by commenters studied the effects of a new tick regime introduced by MiFID II on 511 stocks listed on Euronext Paris and found results similar to the TSP analysis in table 8.^[1288] In this study the authors point out that MiFID II led to tick size increases for 339 stocks and decreases for 82 stocks. Tick increases were followed by a widening of the quoted spread, an increase in depth near the top of the book, and a reduction in message traffic. Like the TSP analysis in table 8, tick decreases were followed by a narrowing of quoted spreads, reductions in depth at the top of the book, and an increase in message traffic; for a relatively wide price interval, depths remained unchanged. Table 8 finds a reduction in the cost of a round lot trade when low quoted spread securities experience a reduction in the tick; similarly, the analysis of MiFID II documents a reduction in transaction costs when the tick is reduced and the size of the trade is held constant. In sum, the effects of a change in tick size on Euronext Paris largely mirror the effects documented with the TSP in table 8, indicating that the Commission's analysis is documenting a generalizable phenomenon.

However, there are several limitations to using studies of Europe's tick size regime. Research based on experience with the E.U. regime is difficult to apply to this Rule because the criteria in this Rule for determining the tick size is the TWAQS, which is not a factor in the European setting. When tick sizes change in Europe, it is due to changes in price or trading volume which can simultaneously affect quoted spreads. The Commission is unaware of research using the tick sizes associated with MiFID II to identify the thresholds, in terms of quoted spread, where a stock likely benefits or is harmed by a modification of the tick size, and the commenter did not provide such research.

In addition, it could be difficult to apply such analysis to the U.S. setting due to a number of structural differences between the European market and the U.S. markets. Key among these is that European financial markets are not as integrated as the U.S. national market system. For example, there is currently no consolidated tape or requirement to route orders to the exchanges with the best prices in the E.U.^[1289] This fact can affect inference in the context of analyzing this Rule because it means that existing studies of the effect of the European tick size regime are generally limited to one exchange ( e.g., the London Stock Exchange).^[1290] This can be a significant limitation when trying to apply insights from European studies to U.S. markets because, as has been found in existing research, using data from one exchange as compared to across all exchanges can lead to opposite market quality effects being documented.^[1291]

As discussed above, a commenter also suggested that the Commission should have considered the effects of tick size modifications in Japan to inform the appropriate thresholds for the tick size change considered in this Rule.^[1292] The Tokyo Stock Exchange (TSE) assigns tick sizes ranging from 0.1 (JPY) to 100,000 (JPY) depending on the price of the security in question. Stocks in the TOPIX 100 index have a different tick size schedule than do other securities. Again, making inferences from the TSE to this Rule is difficult due to the structural differences between the way that the tick sizes operate. On the TSE, tick sizes are price determined, under this Rule, tick sizes depend on the prevailing quoted spread.^[1293] Additionally, trading in Japan is largely consolidated on the TSE, whereas in the United States it is considerably more fragmented suggesting the same issue relating to inference as can occur with the European studies.

In considering the experience in the Japan markets, one study used the median quoted spread to divide stocks on the TSE and examines market quality.^[1294] These researchers find that a tick size reduction reduces quoted spreads for both the narrower and wider quoted spread stocks—although the effects are considerably larger for narrower quoted spread stocks. The results of this study are consistent with those in this release as it documents that for some stocks, particularly those with narrower quoted spreads, reducing the tick size can reduce quoted spreads. This study also documents that depth at the best prices also tends to decrease with a smaller tick. However, this study has limitations in the context of using it to determine the optimal tick to quote size ratio because the authors do not separate stocks using a nominal quoted spread threshold which would allow inference about how stocks with quoted spreads above or below a certain threshold were affected by the tick size. Rather, they simply bifurcate the sample in half which doesn't apply a specific quoted spread threshold and so it is difficult to discern from their study what the optimal tick to quoted spread threshold will be.

One commenter presented two industry studies based on reverse stock splits showing large reductions in percentage spreads and hence trading costs following reverse splits.^[1295] When a stock undergoes a reverse split, its share price rises. All else equal, one would expect quoted spreads to widen in proportion so that the trading cost remains constant as a percentage of price. If the stock is tick-constrained, however, a reverse split causes the current penny tick to become lower relative to the (higher) post-split price, relieving the tick constraint and reducing trading costs as a percentage of the trade amount.^[1296] One study presented evidence from GE's eight-for-one reverse split, and showed that trading costs—as measured by the quoted spread as a fraction of the stock price—fell 75%.^[1297] Another study presented evidence from five tick-constrained ETPs that underwent a five-for-one reverse split; the study found ( print page 81716) that trading costs for these ETPs declined substantially.^[1298] These studies are consistent with results in table 8 above—when the tick constraint is relaxed, the quoted spread becomes smaller relative to the share price, thereby reducing transaction costs.

Some commenters provided explicit specifications of what they stated is the optimal tick to quoted spread range.^[1299] These commenters presented evidence and views typically suggesting that 2 to 4 ticks intra-spread may be the optimal range. Given the analysis of these commenters, analysis presented here, and additional research,^[1300] the Commission believes that the amendments, which only reduce the tick size when prevailing quoted spreads fall below $0.015, are likely to improve market quality for these stocks on average and are unlikely to lead to detrimental pennying or complexity concerns. Specifically, while there will likely be less depth at the NBBO and at each price level, quoted and effective spreads are likely to decline such that the cost of executing small and medium size trades will likely decline. Pennying is unlikely to predominate. This is because, at most, the smaller tick size will result in 3 ticks intra-spread. The analysis contained in this release, additional research,^[1301] and commenters tend to agree that pennying is unlikely to be a dominant effect at 3 ticks intra-spread.^[1302] In fact, 3-ticks intra-spread falls in the middle of the 2 to 4 ticks intra-spread suggested as potentially optimal by many commenters.^[1303]

The narrower quoted spreads from a smaller tick size may result in fewer opportunities for price improvement by retail wholesalers, which may cause execution quality for wholesalers as measured by price improvement statistics to appear worse. However, the prices that retail investors receive for trades in stocks receiving the lower tick size is likely to improve overall relative to the baseline due to a narrower quoted spread, even though the portion of their price labeled price improvement may decline.

One commenter suggested generally that the Commission use simulations to determine the optimal tick size without providing details about how such a simulation could be structured.^[1304] However, it is unclear how such simulations would be structured, and the Commission is unaware of existing simulations or of existing frameworks for simulations studying the effect of tick sizes on market quality. Challenges associated with simulations include model accuracy and complexity, data quality, computational limitations, uncertainty and sensitivity, validation and verification, scalability, and the challenges associated with applying simulations to human behavior which is inherently unpredictable, and the challenges associated with modeling dynamic and evolving systems like financial markets.

One commenter, while not opposing a half-cent tick for some stocks, stated that volume on inverted exchanges implied that there may not be a demand to trade with significantly narrower tick sizes.^[1305] Inverted venues, which as discussed in section VII.C.2.b, offer a rebate to liquidity demanders and charge a fee to liquidity providers effectively allow market participants to price orders within the tick by the amount of the rebate to liquidity demanders. The commenter states that if there were significant demand to trade within the tick size, then we would expect to see inverted exchanges capture significant market share among truly tick-constrained stocks.^[1306]

This argument, however, does not take into account the fact that inverted exchanges are less likely to be at the NBBO than maker-taker exchanges and thus the risk of an order not being able to be fulfilled on an inverted exchange is higher.^[1307] If the inverted exchange cannot fill an order it would generally re-route it or cancel it, depending on the terms of the order. Both options are costly as re-routing orders usually involves a re-routing fee charged by the routing exchange and an access fee charged by the receiving exchange, which would make the trade more expensive to transact relative to just sending it first to a high volume maker-taker exchange. The transfer would also take a small amount of time which could increase adverse selection risk for the re-routed order. Failing to execute the order is also costly as it could expose the trader to increased costs if the market moves against the trader in the time it takes to submit a new order. Consequently, market share on inverted exchanges may be low for reasons other than the stock being tick-constrained. For these reasons, low volume on inverted exchanges is not sufficient to identify demand to trade within the quoted spread.

iii. Alternative Definitions of Tick-Constrained

Some commenters supported using TWAQS to determine which stocks are tick-constrained.^[1308] Other commenters stated that other criteria, in addition to or in place of the quoted spread was needed to identify truly tick-constrained securities.^[1309] One commenter stated that adding additional criteria would decrease complexity as it would limit the number of stocks receiving a smaller tick size, and would prevent stocks from bouncing back and forth between tick regimes.^[1310] The Commission agrees with commenters that the quoted spread is sufficient to determine whether a stock is tick-constrained as a matter of principle but acknowledges that not all stocks receiving the lower tick size will react in the same manner to the tick size. The Commission has considered commenters' views regarding variables other than quoted spread, and has conducted additional, supplemental analysis, presented in this section.

Commenters' suggestions for additional variables fell into three broad categories. The most common type of suggestion involved a depth measure, with commenters questioning whether a ( print page 81717) stock with a narrow-quoted spread was actually tick-constrained if the sizes of the quotes were small.^[1311] Others suggested metrics based on trading volume.^[1312] Another commenter suggested price as a measure of tick constraint.^[1313]

Some commenters stated that even stocks with the narrow quoted spread may not benefit from a smaller tick unless other criteria were met.^[1314] For example, commenters stated that reducing the tick size for stocks that have narrow quoted spreads, but low depth, could lead to pennying which could harm market quality.^[1315] Another commenter stated that if there is insufficient depth, a narrower tick size could harm market quality by fragmenting liquidity over multiple price levels—even if quoted spreads are tight.^[1316] Another commenter didn't articulate specific mechanism by which harms that might arise due to failing to take into account other criteria, but encouraged the Commission to take a “pragmatic approach” starting with a narrow set of “truly tick-constrained stocks” as defined by multiple criteria.^[1317]

As discussed above, quoted spread reflects supply and demand forces in the market for liquidity provision. Many of the concerns of commenters regarding a smaller tick would be expressed by wider quoted spreads; for example, pennying could potentially reduce incentives for liquidity provision, raising quoted spreads. This argues in favor of quoted spread as the main criterion. Furthermore, it is unlikely that a stock which trades near $0.01 nearly all the time does so at random and would continue to do so even if unconstrained. It is more likely that a stock trading with a quoted spread at the minimum pricing increment nearly all the time does so because the stock would trade with a narrower spread if that was possible, but the minimum quoting increment constrains the spread. Finally, quoted spread is correlated with depth, volume, and price.^[1318] For these reasons, it is likely that stocks with narrower quoted spreads will also have relatively high depth, and volume, and have lower prices. However, to fully address commenters' concerns, the Commission has provided additional, supplemental analysis that examines whether there is meaningful variation of the effect of a reduction of tick size within those stocks that have lower quoted spreads.

Specifically, the analysis presented in table 9 explores the question of whether stocks with similarly narrow quoted spreads respond differently to the TSP tick size change when conditioning on other factors suggested by commenters, such as depth, volume, or price. In sum, our analysis does not find evidence supporting the hypothesis that a narrower tick size is likely to harm stocks when considering criteria such as depth, volume, or price in addition to the quoted spread. Instead, our analysis suggests that across most market quality metrics stocks with high and low price, volume, or depth respond in a similar magnitude and direction to the same tick size change. For some market quality metrics, one subset of stocks may not have a statistically significant response to the tick size change. However, in no cases do we observe that stocks with high or low price, volume, or depth respond in opposite directions with magnitudes that are statistically significant. Thus, we find no evidence of a benefit from adding criteria to the tick size determination that would compensate for the considerably greater complexity that such an addition would cause.

The analysis presented in table 9 builds on the TSP analysis considered above, with a few modifications.^[1319] First, for brevity, we only report findings for bin 1 and bin 2 stocks— i.e., those stocks with narrower quoted spreads—because the final Rule will similarly only affect stocks with less than 2 ticks intra-spread.^[1320] We also only present quantile regressions. We obtain daily regular hours trading volume, value weighted average price, and depth at the NBBO information from WRDS Intraday indicators for all trading days in May and June 2018. We divide bin 1 and bin 2 stocks into quartiles based on their average volume, price, or depth at the NBBO. The analysis uses quantile (median) regressions ^[1321] to estimate the following difference-in-differences regression model separately for the high and low quartile samples: ^[1322]

Y_j,t = a₀ + a_PPilot_j + a_EEvent_t + b ( Pilot_jxEvent_t) + m_j,t

By checking to see if market quality measures are affected differently for stocks with similarly narrow quoted spreads, but which have different depth, or price, or volume profiles, the analysis can show whether the effects of reducing the tick size depend on these additional characteristics in a manner that a quoted spread measure misses. The results are presented in table 9. Panel A presents the analysis that considers the effect of trading volume on a stock's response to a reduction in the tick size. The analysis sorts and subdivides the treated and control stocks separately by volume into quartiles, and it then performs regressions on the top and bottom quartile of stocks separately. Columns one and two present the results for stocks with TWAQS less than or equal to $0.011, whereas Columns three and four present the results for stocks with TWAQS greater than $0.011 but less than or equal to $0.020. Columns one and three present the results for stocks in the bottom quartile of trading volume while columns two and four present the results for stocks in the highest quartile of trading volume. Panel B presents the ( print page 81718) same analysis as panel A but where stocks are sorted by price, and panel C does the same for depth at the NBBO. We consider the differential effect of the TSP on depth, quoted spreads, effective spreads, cancel-to-trade ratio, share of odd-lot volume, and realized spread.

( print page 81719)

( print page 81720)

( print page 81721)

The results show that in most cases that there is relatively little disagreement in terms of how low and high characteristic stocks respond to the TSP. In panel A, which presents results sorted based on trading volume, 10 out of the 20 pairs of regressions agree on both sign and statistical significance. A pair refers to the high and low quartile group for the same market quality outcome and the same quoted spread group— e.g., columns one and two are a pair, and three and four are a pair. This means that in 10 out of the 20 regression pairs run, high and low trading volume stocks had market quality responses to the change in the tick size that were in the same direction and were statistically different from zero. A further 8 out of the 20 pairs agree on sign, but not statistical magnitude. This means that while the point estimators from the regressions indicate that both high and low volume stocks had market quality responses in the same direction, either one or both groups experienced an effect that could not be measured to be statistically different from zero.^[1323] Lastly, only 2 out of 20 pairs disagree on sign, but there are no cases where both effects reject the hypothesis of no effect. This means that while the coefficients for the effect of the reduction in the tick size on high and low volume stocks disagree in the direction of the effect, in at least one case the effect is not statistically distinguishable from zero.

The story is similar for panel B which presents results for price. 11 out of 20 regression pairs agree on sign and statistical significance. A further 7 out of 20 agree on the sign of the effect though not necessarily statistical significance while only 2 out of 20 disagree on sign, but again in these cases neither result is statistically different from zero. Lastly in panel C, which presents results for the sort based on depth at the NBBO, 14 out of the 20 regression pairs agree on sign and statistical magnitude, 4 out of 20 agree on sign, but not statistical magnitude, and only 2 pairs disagree on sign, but in these cases neither regression provides a statistically significant result.

This analysis does not support the idea that failing to include price, volume, or depth-based criteria when determining which stocks receive a smaller tick size is likely to produce significant harm. In most cases, the analysis suggests that market quality is likely to respond similarly to a reduction in the tick size for stocks that are both high or low volume, price, or depth. It is possible that in some cases, some of the positive anticipated effects discussed above may be mitigated for certain subgroups of stocks. We fail to find evidence that certain subgroups of stocks will be significantly harmed by the amendments when only considering the time weighted quoted spread when assigning tick sizes.

c. Effect on Message Traffic and Market Data

One commenter stated that, since “reducing the minimum pricing increments for quotations” will result in “significantly more quotation ( print page 81722) increments within a penny-wide spread for a given security,” these amendments will “significantly increase the capacity requirements for market participants to process these additional quotation messages.” ^[1324] Specifically the commenters stated that the additional message traffic could impact CAT costs which they state was not analyzed by the Commission.^[1325]

Commenters also stated that increased message traffic can increase market participants' technological needs in terms of computing and processing requirements.^[1326] Some commenters stated that more message traffic could slow down markets as it would take more time for market participants to process the increased data, this could in turn disrupt trading strategies.^[1327] Another commenter stated that increased message traffic would lead to increased technology costs in terms of server, processor, and storage requirements needed to deal with increased message traffic.^[1328] One commenter stated that significant increases in message traffic can cause technological difficulties for the exchanges.^[1329] Another commenter stated that increased message traffic would give an advantage to sophisticated algorithmic traders who have a greater capacity to manage the cost of the data and could better apply the data itself.^[1330]

The Commission recognizes the potential for these costs articulated by the commenters, and considers the information provided. However, the Commission expects these effects, including the effect on CAT costs, to be mild. This conclusion stems from experience in options markets, which, as discussed above, experience considerably more message traffic than equity markets without significant adverse effects.^[1331] It also stems from research provided by commenters that gives a framework for estimating the increase in message traffic and the costs of such an increase which will now be discussed suggesting an estimated overall increase in technology costs to market participants of approximately 1%, and an estimated increase in CAT costs of approximately $4.1 million.

The amendments add one additional tick intra-spread for some stocks. The Commission expects the increase in message traffic from this increase to be mild. One commenter referenced research performed by one of the exchanges suggesting that each additional tick intra-spread adds 20% to message traffic.^[1332] This research suggests message traffic could increase 20% for stocks receiving the smaller tick size. The Commission expects 74% of share volume to receive the smaller tick, and the remaining share volume to be unchanged by the amendments. Multiplying 74% by 20% suggests that, based on the information provided by commenter, it is reasonable to believe total message traffic may increase by about 15% due to the amendments.

Accordingly, the costs associated with this increased message traffic on most market participants are expected to be relatively small. One commenter estimated that the proposed rule would lead to an increase in total infrastructure costs of 10% due to increased message traffic.^[1333] Using the above methodology we estimate that if the proposal would have led to an increase in message traffic related costs of 10%, as suggested by the commenter, and if the costs of message traffic are proportional to the increase in message traffic, then by this reasoning, the adopted amendments, which create fewer ticks, will be associated with an increased infrastructure costs of approximately 1%.^[1334] Additionally, another exchange, commenting on the Proposing Release which had more and smaller ticks than the adopted amendments, estimated that the increase in message traffic due to the proposal would be relatively small compared to historical variation.^[1335]

Commenters asked the Commission to estimate the effect of the tick size reduction on CAT costs via the mechanism of increased message traffic.^[1336] The fourth quarter 2023 CAT cloud hosting services costs were $30.47 million,^[1337] or $121.88 million if annualized. Further, a recent order approving an amendment to the NMS plan governing CAT stated that equity message traffic accounted for 23% of total CAT message traffic (with options traffic accounting for the remainder).^[1338] Thus, estimated CAT costs associated with equity message traffic equal $121.88 million * 23% = $28.03 million. Under the assumption that CAT costs are linear in message traffic,^[1339] an ( print page 81723) increase in equity message traffic of 15% would correspond to an increase in CAT costs according to the following formula: $28.03 million * 15% (expected increase in message traffic) ≉$4.1 million. Based on this data, we estimate CAT costs would increase by an estimated $4.1 million per year due to increased equity message traffic associated with the smaller tick size. The CAT NMS Plan requires participants and industry members to fund the CAT. The funding model for the CAT NMS Plan allocates the costs to fund CAT among participants and the members of a national securities exchange or a member of a national securities association.^[1340]

Commenters stated that a smaller tick size will fragment liquidity in the order book and reduce the displayed liquidity at the NBBO, which in turn reduces the information about liquidity available in the market for market participants who do not receive depth of book information from proprietary data feeds.^[1341] These commenters stated that this could increase reliance on and the subsequent cost of proprietary data products due to the increased need for the data and simply due to additional data points.

The Commission acknowledges that, in addition to lowering transaction costs, the amendments will likely also spread depth across more price points in the limit order book and reduce depth at the NBBO in some stocks with a 0.5 cent tick, which could increase the complexity and cost associated with sourcing liquidity for larger orders.^[1342] However, the inclusion of odd-lot information in consolidated market data is anticipated to help to mitigate this effect, and the eventual inclusion of depth of book information in consolidated market data due to the implementation of the MDI Rules should also help mitigate this effect.^[1343] Fragmentation of liquidity in the limit order book will increase the precision and usefulness of information about depth of book quotes and odd-lot quotes inside the NBBO for some stocks with a 0.5 cent tick because orders in these stocks will be displayed at half-penny increments rather than at penny increments, which provides more precise information.^[1344] This will increase demand for depth of book data, which could cause more market participants that currently only subscribe to SIP data to purchase exchange proprietary depth of book feeds. It could also cause some market participants that only subscribe to SIP data and who previously would not have purchased MDI depth of book data or odd-lot information to decide to purchase one or both of these MDI data elements when they become available. The Commission acknowledges that the amendments could increase the cost associated with producing exchange proprietary data feeds and MDI data, but the cost increases may not be significant.^[1345] Any changes in the prices of exchange proprietary data feeds would be subject to the SRO fee filing process.^[1346]

After the MDI Rules are fully implemented, commenters stated that the amendments could decrease the benefits of MDI data, which will include depth of book data for prices with quotes that are five levels outside of the NBBO.^[1347] The tick reduction will likely alter the information in MDI data for some stocks with a 0.5 cent tick, making MDI depth of book data less informative while increasing the informativeness of MDI odd-lot information. The tick reduction may generally result in MDI depth of book data showing information on fewer shares in the order book for some stocks with a 0.5 cent tick. More specifically, it may no longer include some information on orders that are $0.03 to $0.05 away from the NBBO in some stocks with a 0.5 cent tick.^[1348] However, the effects of the loss of this information may not be significant because the MDI depth of book data would still show five round lot price levels of depth and many market participants may not need more than five levels of depth of book information.^[1349] Additionally, for stocks with a 0.5 cent tick, information about depth within $0.025 of the NBBO may be more valuable than information about depth that is deeper in the book ( e.g., between $0.03 and $0.05 of the NBBO), because only a relatively small portion of marketable orders execute at prices outside the NBBO.^[1350] Further, for stocks that have the $0.005 tick, MDI odd-lot information about odd-lots inside the NBBO will likely be more valuable because it will show these odd-lots on a finer grid—as long as the NBBO spread is $0.01 or more, the tick reduction allows investors using MDI NMS data to see odd-lots at finer half-penny increments. For stocks that retain the one cent tick size, the tick size amendments are unlikely to affect the informativeness of MDI depth of book data or odd-lot information because the amendments are unlikely to change the trading environment, including odd-lot quotes inside the NBBO and depth in the limit order book.^[1351]

Commenters stated that reducing the tick size would make MDI data less competitive with exchange proprietary data feeds.^[1352] The tick reduction may ( print page 81724) cause some market participants that currently utilize exchange proprietary depth of book feeds, and would have replaced them with MDI depth of book data and odd-lot information if it was available at a lower cost,^[1353] to no longer substitute MDI depth of book data and odd-lot information for proprietary feeds.^[1354] Proprietary feeds will likely gain certain advantages over MDI depth of book data as a result of the tick reduction. First, self-aggregators and competing consolidators relying on MDI depth of book data may not be able to provide information on depth for orders that are between $0.03 and $0.05 away from the NBBO for some stocks that have been assigned a $0.005 tick size because the MDI depth of book data only provides data on depth at 5 round lot price levels. Second, in cases where there is insufficient liquidity at a given price level to form a round lot due to the reduction in the tick spreading liquidity out across more levels, self-aggregators and competing consolidators relying on MDI depth of book data will not be able to provide information on depth at each price point beyond the NBBO, but will rather only have information on liquidity that is aggregated over multiple price points to compose a round lot; proprietary feeds, on the other hand, can offer information on available liquidity at each price point. These two advantages may lead some market participants that would have substituted MDI depth of book data for exchange proprietary depth of book data, if it was available at a lower cost once it was implemented, not to do so due to the tick reduction. To the extent this occurs, it would result in a transfer from competing consolidators and the market participants who would have substituted MDI depth of book data for their proprietary feeds to exchanges, because these market participants will continue paying, and exchanges will continue to receive revenue, for their proprietary data feeds.^[1355] On the other hand, to the extent that the tick size reduction increases the usefulness and demand for depth of book data—as discussed above—some market participants that currently rely on SIP data may be able to satisfy their increased data needs by purchasing MDI odd-lot information and depth of book data from a competing consolidator once the MDI rules are implemented.^[1356]

d. Analysis of the Length of Evaluation and Operative Periods

The adopted amendments specify three-time periods that govern tick assignment.^[1357] First are the periods that a new tick size is operative. The adopted rules update the tick size twice a year, so they set this period at six months. Second, the rules set the ticks based on two backward-looking three-month Evaluation Periods over which NMS stocks' TWAQS is measured; if the TWAQS is at or below $0.015 during this Evaluation Period, then the stock will be assigned a half-penny tick. Otherwise, it will receive a penny tick. Finally, there is a one-month gap between the Evaluation Period and the initiation of the subsequent tick size. The January through March Evaluation Period will determine the tick for the May through October operative period. Likewise, the July through September Evaluation Period will determine the tick for November through April of the subsequent calendar year.

Commenters highlighted a tradeoff with respect to the proposed backward-looking evaluation period. On one hand, a short period “uses the period immediately closest in time to measure securities' behavior to ensure that tick-constrained names are selected using the most recent and relevant basis . . .” ^[1358] On the other hand, a short period may place too much emphasis on idiosyncratic and unrepresentative events.^[1359]

Commenters also highlighted a tradeoff regarding the proposed length of the operative period. Frequent updating will allow tick assignment to more quickly react to changes in the “market environment and individual stock behavior . . .”; ^[1360] quicker updating would thereby “reduce how often and for how long a stock's tick size stays outside the optimal range.” ^[1361] However, more frequent updating may impose costs in terms of adjustments to algorithms, operations, trading models and systems,^[1362] customer complaints,^[1363] and tick size oscillation.^[1364]

Commenters also discussed the importance of a gap between the proposed evaluation period and the beginning of the subsequent tick size to give industry time to update systems and avoid disruptions.^[1365] The proposal did not include a gap between the evaluation period and the subsequent tick size, so the Commission has evaluated the tradeoffs in response to commenters' concerns.

The Commission acknowledges, as it did in the Proposing Release,^[1366] that quoted spreads are not static from day to day. It is possible that a stock could have a narrow quoted spread during an evaluation period, and thus be assigned a $0.005 tick, and then during the following operative period it could experience points in time where the quoted spread is much wider. ¹³⁶⁷ ( print page 81725) Likewise, a stock could have a wide quoted spread during an evaluation period and therefore be assigned a $0.01 tick, yet subsequently trade with a narrower spread such that a $0.005 tick would be beneficial. The extent to which these outcomes occur will depend on the length of the evaluation period, the operative period, and the lag between the two.

The Commission evaluates the tradeoffs mentioned above by computing diagnostic statistics for many different combinations of evaluation and operative periods. The four panels of table 10 each present different diagnostics: panel A estimates the fraction of aggregate share volume that is misassigned to a tick of $0.01, panel B estimates the fraction of aggregate share volume that is misassigned to a tick of $0.005, panel C estimates the rates of false positives, and panel D estimates the rates of false negatives. Table 10 is similar to table 10 of the Proposing Release,^[1368] which estimated in the context of the proposal the fraction of aggregate volume that would receive a tick reduction yet trade with too many intra-spread ticks during the subsequent three months. Table 10 herein extends this analysis by: computing a wider range of diagnostic statistics, computing the statistics on a rolling basis for a 4.5-year sample, computing the statistics for a wide variety of period lengths, and incorporating a one-month lag between the evaluation period and the implementation of the tick updates as provided for in the adopted amendments.

Each diagnostic in table 10 is computed for sixteen combinations of evaluation and operative periods—four evaluation period lengths, and four operative period lengths. The evaluation period lengths include: one month, three months (as suggested in the proposal and finalized in the adopted amendments), five months, and twelve months.^[1369] The operative period lengths include: one month, three months (as suggested in the proposal), six months (as in the adopted amendments), and twelve months.^[1370] The calculations incorporate a one-month lag between the evaluation period and the implementation of the updated tick size—which was not part of the proposal but is part of the adopted amendments. Further, each diagnostic is computed for every month from January of 2018 to June of 2022. That is, the Commission simulates the tick assignment procedure on a rolling basis for every month of the 4.5-year sample and computes the diagnostics at every month.^[1371] Each diagnostic is therefore computed under each of the sixteen combinations of periods and for each of the 54 months in the sample, for a total of 864 calculations per diagnostic. The panels in table 10 summarize the diagnostics over the 54 months and present a single number for each of the sixteen combinations of periods.

The diagnostics computed in table 10 are subject to the following caveat: they are estimated from historical data in which the access fee cap was set at 30 mils, and stocks were constrained by the $0.01 tick. The amendments will reduce the access fee cap to 10 mils for all stocks and will reduce the tick to $0.005 for stocks that maintain a TWAQS at or below $0.015 during the evaluation period. These changes are likely to have two opposing effects on quoted spreads: the reduction in the access fee cap will put upward pressure on quoted spreads, while the reduction in the tick will allow quoted spreads to fall below $0.01 for some NMS stocks.^[1372]

This caveat implies that the estimates in table 10 will be systematically different from the same statistics calculated with realized data— i.e., data after the rule is implemented. However, the purpose of the analysis in table 10 is to detect patterns in how the diagnostics vary across combinations of evaluation and operative periods. These patterns are likely to be robust to the aforementioned caveat. For example, suppose the reduction in the access fee cap causes a stock's quoted spread to widen by 20 mils; this effect would occur whether the Evaluation Period is three months or twelve months, and whether the operative period is one month or six months, etc. Therefore, table 10 can still inform the choice of evaluation and operative period. The subsequent discussion of table 10 will further highlight when a diagnostic may be over- or under-estimated.

Panel A of table 10 estimates the fraction of aggregate share volume that is misassigned to a tick size of $0.01. A stock's volume is misassigned to a penny tick if its average TWAQS is above $0.015 during the most recent evaluation period, yet trades with a TWAQS below $0.015 in the operative period. This trading volume would have benefited from a lower tick of $0.005 in those subsequent months and is therefore considered a false negative. The fraction of aggregate share volume that is a false negative is reported in panel A. Further, this fraction is reported for every combination of evaluation period and operative period.

Looking at the false negatives in panel A, the table demonstrates that shorter periods tend to reduce the percent of volume that is misassigned to a $0.01 tick. One can pick any evaluation length shown in the table (1, 3, 5, or 12). For that evaluation length, the fraction of aggregate share volume that occurs with a $0.01 tick and maintains a TWAQS at or below $0.015 is increasing in the operative period. In other words, more frequent updating provides greater benefits, on average, for any choice of evaluation period. For example, an evaluation period of 3 months with a 1-month operative period will misassign 9.4% of trading volume to a tick of $0.01; if the same evaluation period is used but the tick is updated annually, then the fraction of misassigned trading increases to 12.9%. Similarly, one can ( print page 81726) pick any column corresponding to the operative period (1, 3, 6, or 12) and observe that the prevalence of false negatives is increasing with the length of the evaluation period. These patterns are consistent with commenters' views that more recent (and relevant) data tend to increase the benefits of the amendments.

A tick size can be misassigned in a second way: a stock may be assigned a tick of $0.005 yet end up trading with an average quoted spread over $0.015. This trading volume may not fully benefit from the lower tick and is therefore considered a false positive. If the quoted spread widens sufficiently, relative to the quote, then the stock could trade in a range of ticks intra-spread that may harm market quality.^[1373] The fraction of aggregate volume that is a false positive is reported in panel B of table 10 for every combination of evaluation period and operative period. This is analogous to table 10 of the Proposing Release, but with a quoted spread threshold of $0.015 instead of 10 or 15 ticks to align with the adopted amendments.

Panel B shows that, for the adopted rule choices of a 3-month Evaluation Period and a 6-month operative period, 3.4% of share volume will receive a $0.005 tick yet trade in an environment with an TWAQS over $0.015. It is possible that the reduction in the tick size could cause a worse trading environment for some of this fraction of trading volume, compared to what the trading environment could have been had the stock retained a $0.01 tick. This effect will not be indefinite because, if a stock's quoted spread remains elevated, then at the end of the next evaluation period the stock will be assigned a wider tick—mitigating the negative consequences of having a tick size that is too narrow relative the quoted spread.

The false positive statistics in panel B of table 10 further show that less frequent tick updating tends to result in more volume trading with a smaller tick yet a relatively wide quoted spread. This can be seen by the increased prevalence of false positives as one moves left-to-right along a row—for any chosen evaluation period, a longer operative period results in more volume trading at a low-tick yet relatively wide quoted spread. This pattern is consistent with commenters' views that more frequent updating is better at adapting to changing market trends and stock behavior. Similarly, moving down any given column shows that increasing the evaluation period tends to reduce the amount of volume in low-tick stocks with wide quoted spreads; this pattern is consistent with commenters' views that short evaluation periods may, in some circumstances, assign stocks to the $0.005 tick on the basis of transient events, and that these stocks may not be able to sustain the tick reduction.

The estimates of false positives in panel B of table 10 are likely to be over-estimates for two reasons. First, the threshold for tick misassignment is chosen at a quoted spread of $0.015, which corresponds to three intra-spread ticks. The above analysis on the Tick Size Pilot indicates that the trading environment does not deteriorate until the number of intra-spread ticks is well above three. Hence, the chosen threshold is conservative. Second, and as previously discussed, the estimates in panel B are constructed from historical data in which stocks were constrained by the $0.01 tick. Once these amendments are implemented the stocks assigned a $0.005 tick will be able to trade at quoted spreads below $0.01; this will have a mechanical effect of lowering the stocks' TWAQS and thereby keeping more volume under the $0.015 quoted spread threshold.

By comparing the magnitudes of the false negatives and false positives in panels A and B of table 10, we can assess the relative importance of the two ways in which a tick may be misassigned. The false negatives are generally substantially larger and exhibit greater variation within the table.^[1374] This implies that the incremental effect of the choice of period length will be greater for the share of volume that is misassigned to a $0.01 tick than for volume that is misassigned to a $0.005 tick. For example, the difference between the highest and lowest fraction of false negatives is 12.3%—this is the increase in aggregate share volume at a misassigned $0.01 tick when moving from 1-month periods to 12-month periods—while the difference between the highest and lowest fraction of false positives is only 1.8% of aggregate share volume.^[1375]

An advantage of panels A and B of table 10 is that they estimate the prevalence of false negatives and positives as fractions of aggregate share volume; these panels therefore show the amount of aggregate trading that is misassigned to a tick. A disadvantage of panels A and B is that they do not condition on the aggregate level of quoted spreads. Some combinations of evaluation and operative periods may do relatively well when aggregate quoted spreads are high, and some combinations may do better when aggregate quoted spreads are low.^[1376]

Panel C and D of table 10 address the aforementioned disadvantage of panels A and B by estimating rates of false negatives and positives. The false negative rate conditions on the amount of low- quoted spread volume, while the false positive rate conditions on the amount of high- quoted spread volume.^[1377] Specifically, the rate of false negatives is measured as the amount of share volume that occurs with a tick of $0.01 and a TWAQS under $0.015, divided by the total amount of share volume that occurs with a TWAQS under $0.015. Analogously, the rate of false positives is measured as the amount of share volume that occurs with a tick of $0.005 and a TWAQS over $0.015, divided by the total amount of share volume that ( print page 81727) occurs with a TWAQS over $0.015. In the context of the evaluation period, a low false negative rate signifies effective identification of stocks that would benefit from a tick reduction, while a low false positive rate suggests effective avoidance of assigning a reduced tick to stocks that would not benefit from it. In contrast to panels A and B, patterns in panels C and D of table 10 are likely to be more robust to market-wide changes in quoted spreads.

Panel C of table 10 presents results for the false negative rates across 16 combinations of evaluation periods and operative periods. The pattern for false negative rates is similar to the fraction of share volume inappropriately assigned a $0.01 tick in panel A—as the period lengths shorten, the false negative rates decrease. For example, an evaluation period of 3 months with monthly updating typically fails to assign a tick reduction to 12.8% of volume that would benefit from it. If the same evaluation period is used but the tick is updated annually, then the rule would fail to assign a tick reduction to 19.3% of volume that would benefit from it. The pattern holds moving down columns and moving across rows from shorter to longer periods. This lends support to commenters' views that more recent data—from shorter evaluation periods and more frequent updating—tends to do a better job at assigning a low tick to stocks that will benefit from it in the operative period.

False positive rates are reported in panel D. The pattern for false positive rates is consistent with results in panel B on the fraction of volume inappropriately assigned a $0.005 tick—shorter evaluation periods and longer operative periods tend to have higher false positive rates, indicating that more trading is potentially harmed from having too narrow of a tick. For every column, the highest false positive rate occurs with an evaluation length of 1 month, and the lowest false positive rate occurs with an evaluation length of 12 months. This indicates that short evaluation periods may put more weight on transient events, as some commenters stated. Similarly, for every row the false positive rate is highest with an operative period of 12 months, and the rate is lowest with an operative period of 1 month. This indicates that infrequent updating increases the risk that a stock is stuck at an inappropriately low tick for many months.

The contrasting patterns in the rates of false positives and negatives illustrates a tradeoff highlighted by commenters (and discussed at the beginning of this section). A short evaluation period uses the most recent and relevant information, which on average reduces the false negative rate; however, a short evaluation period also places more emphasis on short-term and volatile events, which raises the false positive rate.

Table 10—Effect of the Evaluation Period on Inappropriate Tick Assignment

	Length of operative period in months
	1 (%)	3 (%)	6 (%)	12 (%)
Panel A: Fraction of aggregate share volume assigned a $0.01 tick with a subsequent TWAQS below $0.015 ( i.e., false negatives)
Length of evaluation period in months:
1	8.5	9.4	10.7	12.9
3	11.4	12.4	13.7	15.8
5	13.1	14.1	15.3	17.3
12	17.0	17.8	18.9	20.8
Panel B: Fraction of aggregate share volume assigned a $0.005 tick with a subsequent TWAQS above $0.015 ( i.e., false positives )
Length of operative period in months:
1	3.1	3.3	3.8	4.3
3	2.6	2.9	3.4	3.8
5	2.6	2.9	3.2	3.6
12	2.5	2.7	2.9	3.2
Panel C: False negative rates
Length of operative period in months:
1	12.8	14.2	16.2	19.3
3	17.4	18.8	20.6	23.6
5	19.9	21.2	23.0	25.9
12	25.7	26.9	28.6	31.2
Panel D: False positive rates
Length of operative period in months:
1	8.5	9.4	10.9	12.6
3	7.2	8.2	9.6	11.2
5	7.1	8.1	9.3	10.6
12	6.8	7.5	8.4	9.5
a  For every month from January 2018 to June 2022, the Commission simulates the tick assignment procedure under 16 combinations of evaluation and operative period lengths. The evaluation period determines the number of prior months to use when averaging each stock's quoted spread; a TWAQS of $0.015 or below during the evaluation period causes the stock to receive a tick of $0.005 during the subsequent tick assignment interval. The operative period determines the length of each tick assignment.
All the statistics in the tables are computed using data beginning one month after the evaluation period. For example, suppose the month is April 2018. To compute the statistics for an evaluation length of 3 months and an operative length of 6 months, the tick size for May 2018 through August 2018 is set by the stock's TWAQS from January 2018 through March 2018. The statistics in the table are determined by stocks' trading during the May 2018 through August 2018 period (the operative period). This process is repeated on a rolling basis for every month from January 2018 to June 2022, and the table summarizes results across all months. ( print page 81728)
TWAQS is determined by computing the time weighted quoted spread during regular trading hours as computed by the WRDS intra-day indicators for every sym_root and sym_suffix combination in the dataset. When calculating a stock's TWAQS during an evaluation period, the stock's daily TWAQS is averaged across all trading days in the evaluation period.
When assigning volume to a TWAQS bucket in an operative period, the TWAQS on a given day for a particular stock is used. That is, if a stock trades with a TWAQS of $0.011 on Monday but the same stock has a TWAQS of $0.016 on Tuesday, then its volume on Monday is assigned to the sub-$0.015 category while its Tuesday volume is assigned to the over-$0.015 category in the operative period.
The universe of securities in the WRDS intra-day indicators dataset is used.
Panel A computes the fraction of total aggregate share volume that occurs in stocks that would have been assigned a $0.01 tick yet subsequently trade at a TWAQS of under $0.015 in the operative period. These stocks would benefit from a $0.005 tick instead of a $0.01 tick.
Panel B computes the fraction of total aggregate share volume that occurs in stocks that would have been assigned a $0.005 tick yet subsequently trade at a TWAQS of over $0.015 in the operative period. These stocks may not benefit from the $0.005 tick.
Panel C computes false negative rates. The false negative rate is the fraction of share volume that is assigned a tick of $0.01 among the share volume that trades with a TWAQS under $0.015 in the operative period.
Panel D computes the false positive rates. The false positive rate is the fraction of share volume that is assigned a tick of $0.005 among the share volume that trades with a TWAQS above $0.015 in the operative period.

Table 11 further explores commenters' discussions about the risk of placing too much emphasis on transient market conditions. In particular, panels A and B of table 11 computes rates of false negatives and positives—similar to panels C and D of table 10—but does so using only the evaluation period that ends with March of 2020. The one-month evaluation period includes only March of 2020; the three-month evaluation period covers January to March of 2020; the five-month evaluation period covers November of 2019 to March of 2020; the twelve-month evaluation period covers April of 2019 to March of 2020. In this way, panels A and B of table 11 demonstrate what may happen if an unusual market event causes an inappropriate tick assignment. These panels show that a one-month evaluation period performs particularly poorly when that month is March of 2020. Specifically, the one-month evaluation period exhibits a substantially higher false negative rate.^[1378] A three-month evaluation period consistently has the lowest false negative rate—it has the benefit of recent data without an over-reliance on short-term fluctuations. Finally, the false positive rates in panel B approximately double when moving from a six-month operative period to a twelve-month operative period, indicating that infrequent tick updating can lead to stocks getting stuck with an inappropriately low tick for an extended period.

Panels A and B of table 11 add to our understanding of the tradeoff presented by the evaluation period. Table 10 suggests that short evaluation periods tend to reduce false negatives but increase false positives. Given that false negatives (vs. false positives) tend to be more prevalent and vary more across evaluation periods, table 10 suggests that a one-month evaluation period may be best. However, table 11 shows that a one-month evaluation period may substantially increase false negatives when the evaluation period includes a period of unusual market stress.

While panels A and B of table 11 includes March of 2020 in the evaluation period, one commenter also provided, in the context of the Proposing Release, analysis using March of 2020 in the operative period. This commenter stated that during times of market stress, “many symbols would be trading with far more price levels intra-spread than contemplated under the Proposal, thereby further increasing the liquidity-related harms . . .” The commenter further showed that, were the proposed rule in effect, most symbols receiving a tick reduction would have experienced over ten intra-spread ticks during March of 2020, and many stocks would have experienced over twenty intra-spread ticks.^[1379]

The Commission acknowledges that quoted spreads generally widen during periods of market stress, and this may result in stocks trading with more intra-spread ticks than is desirable; the rise in intra-spread ticks may then compound the market stress. Relative to the proposal, the amendments reduce the severity of such an outcome by reducing the number of stocks that receive a tick reduction, and by reducing the size of the tick reduction. To further examine this issue, the Commission conducts its own analysis with March of 2020 as the operative period. In particular, the Commission simulates tick assignment in February of 2020 under the parameters of the amendments, and then examines the outcome during March of 2020. The simulation is done for a range of evaluation periods—a one-month evaluation period uses January of 2020 to determine which stocks receive the $0.005 tick in March (allowing for a one-month lag), a three-month evaluation period uses November of 2019 to January 2020 to assign ticks, a five-month evaluation period uses September of 2019 to January 2020, and a twelve-month evaluation period uses February of 2019 to January 2020. The Commission then examines the fraction of aggregate share volume that would have received a $0.005 tick under the amendments yet traded with a wide quoted spread during an operative period of March 2020.

Results are presented in panel C of table 11. Each row corresponds to an evaluation length of 1, 3, 5, or 12 months. Each column corresponds to a quoted spread threshold of $0.015, $0.02, or $0.05. The upper-left number—21.4%—indicates that 21.4% of aggregate share volume in March of 2020 would have occurred with a $0.005 tick and a TWAQS over $0.015. With a three-month evaluation period, this fraction halves to 10.6%, further reinforcing the conclusion of panel A that a one-month evaluation period may do particularly poorly when market conditions suddenly worsen. The Commission further reiterates that stocks receiving a $0.005 tick are unlikely to be harmed when trading at a quoted spread of $0.015, so it is unlikely that 10.6% of share volume would have been harmed in March of 2020 were the amendments in place. To further explore this issue, the Commission performs similar calculations with wider quoted spread thresholds of $0.02 and $0.05. With a three-month evaluation period, the fraction of aggregate share trading that receives a $0.005 tick and trades at a quoted spread over $0.02 is 6.4%; this reduction (from 10.6% trading at a quoted spread over $0.015) indicates that a substantial proportion of the false positive trading during March of 2020 is occurring with 3-4 intra-spread ticks, which is generally in line with commenters' views on the optimal number of intra-spread ticks.^[1380]

( print page 81729)

Finally, with a three-month evaluation period, the fraction of aggregate trading that receives a $0.005 tick and trades at a quoted spread over $0.05 is 1.2%. Analysis in the Proposing Release and herein suggests that this 1.2% of volume is at an increased risk of a reduction in market quality due to having over ten intra-spread ticks.^[1381]

Table 11—Effect of the Evaluation Period on Inappropriate Tick Assignment Around March 2020

	Length of operative period in months
	1 (%)	3 (%)	6 (%)	12 (%)
Panel A: False negative rates using March of 2020 in the evaluation period
Length of evaluation period in months:
1	36.2	35.4	37.4	40.1
3	21.7	22.5	23.7	23.9
5	34.7	34.9	36.1	37.4
12	30.0	31.7	32.0	33.9
Panel B: False positive rates using March of 2020 in the evaluation period
Length of operative period in months:
1	1.7	2.6	3.2	8.0
3	3.0	4.6	6.0	12.0
5	2.6	4.1	5.4	10.2
12	3.6	5.0	6.5	11.0
Panel C: Fraction of March 2020 share volume with a $0.005 tick and wide quoted spreads

Table 11—Effect of the Evaluation Period on Inappropriate Tick Assignment Around March 2020

	Quoted spread threshold
	AQS > $0.015 (%)	AQS > $0.02 (%)	AQS > $0.05 (%)
Length of evaluation period in months:
1	21.4	14.4	3.5
3	10.6	6.4	1.2
5	12.4	7.6	1.5
12	14.4	9.2	2.0
a  The Commission simulates the tick assignment procedure under 16 combinations of evaluation and operative period lengths. The methodology and data used for this simulation is described in the note to table 10.
In contrast to table 10, which performed the simulation on a rolling basis for every month from January 2018 to June 2022, this table only simulates tick assignment and outcomes around March of 2020.
Panel A repeats the false positive calculations of table 10 as if the tick is assigned in April 2020 (to ensure that March 2020 is in the evaluation period). For example, to compute the statistic for an evaluation length of 3 months and an operative length of 6 months, the tick size for May 2020 through August 2020 is set by the stock's TWAQS from January 2020 through March 2020. April 2020 is the hypothetical month in which the tick assignment is calculated and acts as the gap between the evaluation period and the operative period. Panel B similarly repeats the false negative calculations of table 10 as if April 2020 is the month in which the tick assignment is calculated.
Panel C instead uses March 2020 as the operative period. For example, to compute the statistic for an evaluation length of 3 months, the tick size for March 2020 is assigned by the stock's TWAQS from November 2019 to January 2020, with February of 2020 being the hypothetical month in which the tick assignment is calculated. Panel C computes the fraction of total aggregate share volume that occurs in stocks assigned to a $0.005 tick, yet trades at a high TWAQS during March of 2020. The fraction is calculated using a range of TWAQS thresholds for trading during March of 2020—the columns correspond to trading with a TWAQS over $0.015, $0.02, and $0.05.

The analysis indicates that a shorter operative period almost always results in fewer errors. By updating the tick more frequently, the tick better reflects changing market conditions—this is shown by increasing rates of both false negatives and positives as the operative period widens.^[1382] However, commenters stated that more frequent updates may impose costs in terms of adjustments to algorithms, operations, systems, and an increase in customer complaints. One commenter requested that the Commission “investigate historical rates of change in the TWAS for a variety of trading symbols. This would avoid imposing undue costs on market participants that may be caused by tick size updates that are too frequent but should mitigate the possibility that tick sizes do not update frequently enough and lead to worse trading outcomes.” ^[1383]

( print page 81730)

The Commission examines the frequency of tick size updates in table 12. This table shows the typical number of tick-changes that occur in a 12-month period under each combination of evaluation and operative period length.^[1384] Shorter operative periods present a tradeoff, they better tailor the tick size to current conditions for the stock which can improve market quality for the stock, but they impose two costs: first, a shorter operative period implies ticks are updated more frequently during a year, which increases the number of discrete system changes that market participants need to make. Second, a shorter operative period increases the number of tick-changes that stocks experience during a typical twelve-month period—this is seen in table 12 by the increase in tick changes as one moves right-to-left in any row. More tick changes may result in result in more extensive changes to trading algorithms and may increase customer confusion and complaints. The risk of customer confusion is mitigated by the adoption of a tick size indicator in the regulatory data. This indicator can be directly incorporated into trading algorithms helping to automate the process adjusting trading strategies to different tick sizes for algorithmic traders.^[1385]

Table 12—Effect of the Evaluation Period on the Median Number of Tick Changes Over a 12-Month Period ^a

	Length of operative period in months
	1	3	6	12
Length of evaluation period in months:
1	4,722	2,317	1,356	665
3	2,632	1,969	1,253	653
5	1,724	1,435	1,153	622
12	772	680	591	488
a  The Commission simulates the tick assignment procedure under 16 combinations of evaluation and operative period lengths. The simulation is performed on a rolling basis for every month from January 2018 to June 2022. The methodology and data used for this simulation is described in the note to table 10. This table computes the number of tick changes that occur over a median 12-month horizon for each combination of evaluation and operative period length.

To summarize the results of this subsection, tables 10, 11, and 12 illustrate the tradeoffs inherent in the choice of evaluation and operative periods. With respect to the evaluation period, table 10 implies that shorter period lengths reduce false negatives but increase false positives; the higher prevalence of false negatives tilts the scale toward a short evaluation period. Table 11, though, shows that a one-month evaluation period may unduly increase the influence of aberrant events, while a three-month evaluation period continues to perform well in unusual market conditions.

With respect to the operative period, tables 10 and 11 imply that shorter period lengths reduce both false negatives and positives. Table 11 shows a particularly large reduction in false positives when using a six-month operative period instead of a twelve-month period. Focusing on an evaluation period of three-months, tables 10 and 11 show similar error rates with operative period of three and six months. However, a three-month operative period requires market participants to update their systems twice as often as a six-month period, and table 12 shows that the number of annual tick changes increases 57% when moving from the six-month to the three-month period.^[1386] The amendments, which adopt a three-month Evaluation Period and a six-month operative period, reflect these considerations.^[1387]

Finally, the Commission examined the effect of a one-month lag between the end of the evaluation period and the subsequent tick assignment. All the results in tables 10, 11, and 12 include this one-month lag; the Commission separately calculated table 10 statistics without the lag. If the lag is removed, then the error rates in panels A and B of table 10 fall by a small amount across all combinations of evaluation and operative periods. The lag effectively makes the evaluation period less informative about the operative period, and this effect is stronger when updates are made every month. With respect to magnitudes, removing the lag causes the fraction of trading that is a false negative to decrease by an average of 0.9% with a maximum decrease of 1.2% for the top left cell of panel A; the false positives in panel B likewise drop by an average of 0.2% when the lag is removed. On the other side of the scale, the lag may reduce operational burdens on market participants by allowing them time to update their systems before a new tick assignment occurs, and may likewise provide brokers time to give advance notice to customers about which stocks will experience tick changes.^[1388] The amendments, which provide a one-month lag, reflect a conclusion that the cost of increased error rates due to the one-month lag is small relative to the benefits that the lag provides for industry testing and adjustment.

e. Additional Effects of a Half-Penny Tick

Some commenters suggested, in the context of the proposal, that a tiered tick size could create confusion in the markets particularly for retail traders.^[1389] These commenters stated ( print page 81731) that retail traders may be at a relative disadvantage because they may get confused by the sub-penny increments. One commenter presented data suggesting that retail traders tend not to use sub-penny non-marketable limit orders even when they can, for instance for orders priced below $1.00, and that fill rates for such trades tend to go down for retail traders.^[1390] The commenter ascribes these findings to retail investors getting confused and being unfamiliar with sub-penny trading increments leading to a competitive disadvantage for these traders with respect to more sophisticated traders that are more familiar with sub-penny increments and thus retail traders using non-marketable limit orders would be more likely to be undercut with a smaller tick.^[1391] Another commenter suggested that retail investor confusion would lead retail brokers to need to hire additional staff to manage customer confusion and education concerning multiple tick sizes, or to handle phone trades by retail customers confused by the markets.^[1392]

The Commission acknowledges some potential for confusion but does not expect the amendments to disadvantage retail traders. First, the comments are in response to the proposal; the adopted amendments have fewer minimum quoting increments than the proposed amendments; indeed, there are only two as opposed to four. Second, any confusion or disadvantage must be evaluated relative to the baseline. Currently the penny tick creates a price floor, which, especially for tick-constrained stocks, advantages faster and generally more sophisticated traders. It also creates incentives for more complex strategies such as those involving alternative venues, again, contributing to complexity and putting less sophisticated investors at a disadvantage. Third, the one-month period of time between measuring the TWAQS and the assigned tick size becoming operational will allow time for broker-dealers to educate customers about tick sizes.^[1393] For these reasons, the half-penny tick is not expected to disadvantage retail traders.

One commenter requested that the Commission consider how a smaller tick size could affect stock splits.^[1394] The commenter cited academic research suggesting that stock splits can be used to affect the bid-ask spread.^[1395] To the extent that issuers engage in stock splits to manage their quoted spread, this behavior is likely to continue under the amended rules when issuers believe that a stock split could improve their liquidity. However, the amendments are expected to improve liquidity on average for stocks subject to the smaller tick size, so it may be less likely that an issuer may feel the need to manage liquidity via stock splits going forward and so there could be fewer associated stock splits for this reason. Furthermore, although stock splits and reverse splits can mechanically affect the bid-ask quoted spread and change the optimal tick, the next evaluation period would rectify any misalignment in the stock's tick size assignment.^[1396]

Some commenters requested that the Commission provide an analysis of the effect of the amendments on the use of ISOs (intermarket sweep orders).^[1397] Some stated that spreading liquidity over more price levels would increase the risk of information leakage with regards to a large order being split over many smaller orders which would lead to an increased complexity of implementing large orders and would thus lead to an increased use of ISO orders.^[1398] Barardehi et al. (2022) ^[1399] specifically examine the effect of tick sizes on ISO activity. Their study finds that a narrower tick is associated with more ISO activity which the authors attribute to the increased market complexity associated with implementing trades in a narrower tick environment. This is consistent with the effect considered by the commenters. Consequently, ISO usage is likely to increase for stocks that receive the narrower tick size. One commenter stated that increased use of ISO orders may result in more locked and crossed markets.^[1400] Research on the link between ISO usage and locked markets is scant. Increased ISO usage could eventually lead to an increase in locked and crossed markets, which could make transacting on exchanges more complicated, however the magnitude of any effect is uncertain.

Another commenter specifically asked the Commission to consider the effect of a lower tick size on ETFs as opposed to stocks.^[1401] The commenter stated that ETFs tend to have larger trade sizes and also that the creation and redemption process for ETFs is unique. However, the commenter does not provide any analysis regarding how these differences would lead an ETF to react differently than a common stock to a reduction in the tick size.^[1402] The fundamental economics regarding the tick size tradeoff discussed at the beginning of this section applies to ETFs because the economics discussed in this section rely on the mechanics of quoting and trading, not on the assets underlying the stock or ETF. It is also unclear how the creation redemption process would differ from the analysis provided above. Additionally, the creation/redemption process also does not produce unique economics in the context of these amendments. This is because authorized participants purchasing the underlying shares to deliver in exchange for shares of the ETF or delivering shares of the ETF in exchange for the underlying assets would still need to purchase and sell the underlying shares in the stock market, subjecting them to the economics of supply and demand for liquidity provision for the stocks in question. Consequently, ETFs with narrower quoted spreads likely will experience an improvement in market quality with a $0.005 tick size. To the extent that ETFs have larger average trade sizes the benefits of the Rule may be smaller, consistent with the analysis presented in Barardehi et al. (2022). But as the adopted amendment is more conservative than the proposed rule in that it applies a tick size of $0.005 to stocks with quoted spreads equal to or less than $0.015, the Commission does not believe, based on the analysis above and commenters evidence presented above, that the amendments are likely to harm ETFs that receive a tick size reduction.

One commenter stated that updated Rule 605 data would “question the validity of assumptions” made in the tick size proposal.^[1403] The commenter stated that Rule 605 execution quality data for stocks that have quoted spreads wider than the tick would demonstrate that the minimum quoting increment is not the driver of off-exchange retail ( print page 81732) trading.^[1404] The Commission agrees that there are other factors driving off-exchange retail trading, and adopts changes to Rule 612 for reasons other than a significant change in retail order flow. For this reason, additional information regarding retail execution quality that will arise from amended Rule 605 is not needed prior to adopting amendments to Rule 612.

One commenter stated that variable tick sizes “raise[ ] concerns about the ability to compare the execution quality for the stock across multiple months,” resulting in “a significant possibility of investor confusion when comparing Rule 605 reports across several months.” ^[1405] The Commission acknowledges that changes in the tick size may result in changes to the levels of some measures of execution quality that are sensitive to the tick size, such as price improvement, over time. To the extent that this reduces the interpretability of Rule 605 reports, particularly for stocks that experience frequent changes in the tick size, this could represent a cost of the amendments. However, there are several factors that will mitigate this potential cost. First, the adopted amendments include an operative period that limits the frequency at which a tick assignment is updated to a minimum of six months. The fact that a stock's tick assignment cannot vary more frequently than every six months greatly reduces the number of potential changes in execution quality levels in monthly Rule 605 reports that result from changes to a stock's tick size. Second, to the extent that market participants will be able to combine Rule 605 information with information about a stock's historical tick size,^[1406] this will allow them to control for this characteristic when assessing a stock's execution quality data over time. In addition, as acknowledged by the commenter, a change in the tick size “may impact market centers and broker-dealers reporting under 605 in the same manner,” ^[1407] such that variations in the tick size (and the resulting mechanical effects on execution quality levels) will not impact the use of Rule 605 to compare execution quality across reporting entities within a given month.

If FINRA chooses not to update Rule 5320 (the `Manning Rule'), the lower tick size could make claiming the price improvement exception to FINRA Rule 5320 harder for market participants since it would require a two-tick price improvement for some stocks instead of a one tick price improvement. One commenter stated that because the price improvement exception in the Manning Rule is currently tied to $0.01 price improvement, a tick size smaller than $0.01 would “greatly increase the cost and complexity of compliance and would likely disincentivize (or eliminate) the handling of customer limit orders by wholesale broker dealers.” ^[1408] The commenter made this statement specifically referencing the proposed $0.001 tick increment. The adopted amendments do not include the $0.001 tick size and so these concerns are significantly mitigated. Nonetheless, requiring two tick price improvement for some orders could increase the complexity associated with complying with the Manning Rule, particularly in situations where the quoted spread is only one tick wide because it would require more than crossing the quoted spread in order to claim the exception. For broker-dealers, such as wholesalers, whose business models center on internalizing customer orders within the NBBO, the requirement to, in some instances, more than cross the quoted spread in order to execute a customer order could be a disincentive to handling some orders as it could render such trades unprofitable.^[1409]

One commenter stated that a lower tick size could lead to oscillation in some stocks between tick sizes.^[1410] The commenter stated that a stock that falls just under the threshold and thus receives a smaller tick may be subject to more undercutting with the smaller tick size, which could cause quoted spreads to widen. Wider spreads would make the stock revert to the wider tick size, which would reduce undercutting so that quoted spreads would decline. A narrower spread could lead to a smaller tick in the next round and so on.^[1411] The Commission believes that this outcome is unlikely given the analysis provided in this section. Stocks receiving the smaller tick size are expected to experience smaller quoted spreads due to the smaller tick size allowing pricing that better reflects supply and demand. This effect would reduce oscillation. Stocks receiving the smaller tick size would likely experience tighter quoted spreads making it less likely that they would revert to the $0.01 tick in the next evaluation period.

2. Lower Access Fee Cap

The amendments will lower the access fee cap from $0.003 per share (30 mils) to $0.001 per share (10 mils) for NMS stocks priced at $1.00 or more, and from 0.3% to 0.1% of the share price for stocks with prices less than $1.00. Lowering the access fee cap preserves price coherence,^[1412] given changes to the tick size. Moreover, the Commission expects that lowering the access fee cap will result in lower transaction costs for investors. The Commission also expects that a lower access fee cap will result in wider quoted spreads; however, market quality will nonetheless improve. Lowering the access fee cap will reduce exchange transaction revenue due to lower capture on sub-$1.00 stocks. We describe these effects in more detail below.

Commenters, with few exceptions,^[1413] agreed on the need for Commission action on access fees given the change in the tick size.^[1414] One commenter stated that in light of the reduction in ticks for some stocks to $0.005, leaving the access fee cap at 30 mils would “distort trading economics in a manner that undermines the Commission's goals for competition and Best Execution.” ^[1415] Many commenters ( print page 81733) supported a 10 mils access fee. ^[1416] Some commenters went further, stating that the Commission should explore “comprehensive access fee reform” or ban rebates entirely.^[1417] Some commenters suggested what they viewed as a less extensive change, namely an alternative in which some stocks had a fee of 15 mils whereas others had a fee of 30 mils.^[1418] In short, while commenters agreed on the need for Commission action to lower the access fee cap, they disagreed regarding the specifics.

a. Coherence Between Net and Quoted Prices

In the Proposing Release, the Commission discussed the need to maintain an access fee cap that is less than half of the tick size due to the need to maintain coherence between net and quoted prices.^[1419] Commenters, with few exceptions,^[1420] agreed.^[1421] Reducing the access fee cap to 10 mils will satisfy this condition of coherence. As explained in the Proposing Release, only the best posted price is protected. Under the current regulatory framework, leaving the access fee cap at 30 mils could preclude market participants from trading on exchanges that have the best displayed price when fees and rebates are included. Suppose a traditional exchange has a displayed protected bid at $10.010, whereas an inverted exchange has a displayed protected bid at $10.005. Order protection would require the exchange to have policies and procedures in place reasonably designed to prevent trades from occurring at a price worse than the protected quote,^[1422] effectively requiring the investor to go to the traditional exchange if the investor wished to trade against a displayed, on exchange bid. However, on the traditional exchange, the investor demanding liquidity would take home $10.007, whereas on the inverted exchange, the investor would take home $10.008.^[1423]

Closely related to the lack of price coherence on exchanges is the effect on price transparency. To illustrate, consider a situation with an access fee and rebate of $0.003 and a tick size of $0.005. Consider the effect on prices of a stock. Suppose one sees a trade executed at a price of $10.005 followed by another executed at a price of $10.010. Many investors would interpret this as a sign that a stock was increasing in value. However, with an access fee of $0.003, the net price of the first order if it represents a market order to buy is $10.008 (the buyer pays $10.005 + $0.003), whereas the net price of the second order if it is a market order to sell, is $10.007 (the seller receives $10.010 and pays $0.003 in fees). The price has fallen, not risen, an effect that only the most sophisticated market participants would be able to discern.^[1424] Lowering the access fee cap to 10 mils would solve both of these problems.

b. Quantitative Net Capture Analysis

While the amendments do not directly dictate what rebates trading venues can offer, trading venues generally finance rebates through access fees, so in practice reducing the access fee cap will lower the rebates offered.^[1425] If trading venues were to subsidize rebates by taking a net loss per share transacted, they would be vulnerable to experiencing extreme and unpredictable losses if volumes spike. Such a trading venue could experience such losses if its non-transaction fee sources of revenue do not increase enough with a spike in trading volume to offset their negative net capture. Trading volumes can vary significantly through time, with little ability for a trading venue to predict the timing and magnitude of changes in trading volume. For example, in January 2021 volume spiked dramatically for certain stocks relative to pre-January 2021 levels.^[1426] Exchanges could face financial hardship should rebates deviate substantially from fees; so it is unlikely that exchanges would take this risk. For this reason, rebates and the cap on access fees are tied together.

As explained in section VII.C.2.b, the Commission understands that the net capture for non-auction trading in stocks that have a price equal to or greater than $1.00 is likely close to 2 mils for most exchanges. An exchange net capture rate of approximately 2 mils is in line with current pricing practices at most exchanges; it is reasonable to estimate that exchanges would realize a similar net capture rate because the current net capture rate will remain possible under the adopted amendments. The Commission acknowledges uncertainty over whether this 2 mils capture rate will persist or be different should trading venues choose to alter their business model in response to the change in access fees. The analysis that follows assumes that exchanges will maintain the practice of financing rebates through access fees, and thus for transactions in stocks priced $1.00 or more the Commission expects the average access fee to be near the 10 mil access fee cap and the average rebate to be approximately 2 mils lower.^[1427] The analysis also assumes that the behavior of inverted exchanges and off-exchange venues changes proportionally. Although the amendments would not require proportional change on the part of inverted venues, there is currently no restriction on the level of rebates for taking liquidity or fees for posting; yet, as shown in table 4 in section VII.C.2, inverted venues generally have fee and rebate levels similar to maker-taker ( print page 81734) venues and approximately a 2 mils capture rate.

Table 13 uses volume estimates from table 5 to provide estimates of the fees and rebates that would have been collected and disbursed in 2023 if the amended access fee cap was implemented.^[1428] Panel A shows that under the current system with a 30 mil access fee cap for quotations priced $1.00 or more and a 0.3% access fee cap for transactions less than $1.00, the exchanges collected an estimated $3.4 billion in access fees and distributed $3.1 billion in rebates in 2023, providing an estimated net capture of $337 million for the exchanges in that time period.^[1429] In table 13 the Commission estimates that the exchanges would have collected $1,188 million in access fees and distributed $906 million in rebates in 2023 under the amendment to Rule 610, providing the exchanges a net capture of $282 million in that time period. Thus, the Commission estimates that total access fees collected would have declined by $2.23 billion and rebates distributed by $2.17 billion in 2023.^[1430] This amounts to an estimated decline in net capture of $54.9 million across all exchanges. This decline is conditional upon exchanges maintaining a 2 mil capture rate for stocks trading at a price of $1.00 or higher. Any estimated changes in total net capture across exchanges is due exclusively to the change in the access fee cap for stocks trading below $1.00.

Panel B provides estimates of the effect of the amendments on access fees paid and rebates received by liquidity demanders and providers separately. The Commission estimates that, under the amendments, liquidity demanders would have paid $1.93 billion less ^[1431] in access fees and liquidity providers would have received $1.88 billion less in rebates in 2023. Thus, the current estimated $2.6 billion in fee funded rebates in 2023 would have decreased by approximately 70% under the amendments.

Table 13—Estimated Access Fees and Rebates Collected—Current and Adopted 2023  ^a

	Current	Rule	Difference
Panel A: Estimated Access Fees Collected and Rebates (in Millions of Dollars)
Fees Collected	3,414.00	1,188.91	−2,225.21
Rebates Distributed	−3,076.50	−906.16	2,170.30
Exchange Capture	337.66	282.75	−54.90
Panel B: Estimated Fees by Liquidity Type (in Millions of Dollars)
Liquidity Demander	2,969.12	1,034.61	−1,934.51
Liquidity Provider	−2,631.47	−751.86	1,879.61
Exchange Capture	337.66	282.75	−54.90
a This table takes trading volumes presented in table 5 to calculate aggregate fee and rebate estimates under the Rule. Current estimates of fees collected and rebates distributed are taken from table 6. The analysis presumes that exchanges with fees and rebates currently above 10 mils will decrease fees and rebates to a 10 mil fee and 8 mil rebate (the exceptions being IEX which charges 10 mils to takers and rebates 4 mils to makers, NYSE Chicago which charges both sides 10 mils, and LTSE which does not charge fees). For trading in securities priced less than $1.00, estimates of fees and rebates presume that all sub $1.00 fees from panel B of table 4 which are over 0.10% are reduced to 0.10%, fees at or below 0.10% remain the same. Computations are made per exchange and then aggregated as shown above.

Table 14 presents analysis showing an estimated total reduction of approximately $55 million per year in net capture due to the reduction in the access fee cap and how it might in turn affect the transaction revenues of each of the various exchange families. This estimated decline in transaction revenue comes exclusively from the reduction in the access fee cap for transactions in securities below $1.00.¹⁴³² This is because, as previously explained, the Commission expects that for transactions priced equal to or greater than $1.00 the exchanges should be able to maintain their current net capture.¹⁴³³ For transactions priced below $1.00 most exchanges currently charge the maximum 0.3% but typically offer no rebates.¹⁴³⁴ Because very few exchanges offer rebates on stocks priced below $1.00, the access fee represents the exchange's net capture. Lowering the access fee from 0.3% to 0.1% on these transactions will represent a decrease in net capture of 66% for many exchanges. This decrease may vary across exchanges. Some exchanges do not charge any fees for trading in sub $1.00 securities, while others charge a fee to both sides of a sub $1.00 transactions. Additionally, the exchanges differ in the fraction of sub ( print page 81735) $1.00 trading volume that they handle.¹⁴³⁵ Table 14 provides an annual estimate of the effect on exchange transaction revenue of lowering the access fee on exchanges' net capture given realized volumes in 2023 for each exchange group. To the extent that the reduction in the access fee causes more trading at sub-dollar prices, table 14 overestimates the reduction in exchange transaction revenue.¹⁴³⁶

Table 14—Estimated Effect of Rule on 2023 Exchange Transaction Revenue for Stocks Prices Below $1.00  ^a

	Transaction revenues ($)	Transaction revenues (%)
Nasdaq	−$18,593,052	−20
NYSE	−18,750,074	−19
Cboe	−12,375,769	−16
MEMX	−4,517,207	−21
IEX	0	0
MIAX	−667,838	−7
LTSE	0	0
Total	−54,903,941
a The variable Transaction Revenue ($) provides an annualized estimate of the effect of the amendment to Rule 612 on exchange net capture. For all exchanges, other than LTSE which doesn't charge an access fee and IEX which has an assumed net capture of 6 mils per share traded above $1.00 (Panel A of table 4 shows that IEX charges a fee of 10 mils coupled with a rebate of 4 mils), the net capture on transaction priced equal to, or greater than, $1.00 per share is expected to remain unaffected by the amendments at the assumed 2 mils per share. The 2 mils per share assumption is further discussed in section VII.C.2.c.Thus, the Commission does not expect any decrease in overall exchange transaction revenue per share for shares priced above $1.00. For transaction volume below $1.00 per share estimates for the decline in transaction revenue is computed by assuming that under the amendments all exchanges currently charging more than 0.10% for transactions will lower the transaction fee to 0.10%. Exchanges currently charging access fees less than or equal to 0.10% will continue to charge their current rates. The list of current estimated exchange sub $1.00 pricing comes from panel B of table 4. Sub $1.00 dollar volume estimates for each exchange are from table 5. The estimated transaction revenue under the amendments is compared to the estimated transaction revenue in the current environment that is estimated using the sub $1.00 transaction fees/rebates for each exchange presented in table 4 panel B and multiplying these fees by volume estimates for each exchange from table 5. See section VIII.C.2 for tables 4 and 5. The difference is presented in the table 14 along with the precent change in transaction revenue from the baseline.

Lastly, transaction fees in stocks priced less than $1.00 serve to increase the net cost of accessing liquidity as they do not tend to fund rebates to liquidity providers so there is no incentive that could induce spreads to narrow and on average offset the fee.^[1437] Lower transaction costs for these securities may improve liquidity for stocks with prices less than $1.00. However, given the relatively low natural trading interest, the Commission does not expect a significant improvement in the trading environment for these securities.

Given the low net capture rates, the Commission concludes that in most cases, access fees are typically used to fund rebates and not used exclusively to fund execution services. Multiple commenters stated that current access fees and fee caps are not reflective of the current actual costs of providing execution services.^[1438] One commenter stated that the cost of processing and matching trades has dropped with technological advances.^[1439] Another commenter stated that “the fees charged by exchanges are often far in excess of those necessary to maintain operations of the exchange.” ^[1440] A commenter pointed to significant reductions in spread and commissions since 2005, which have resulted in the 30 mil access fee cap representing a more significant economic factor in trading.^[1441]

One commenter stated that a 10 mil access fee cap would represent a “fair pricing model based on the `cost plus reasonable return' methodology” by citing that ATSs charge 10 mil fees while employing similar technologies as exchanges.^[1442] On this latter point, a commenter stated that a uniform access fee cap of 10 mils would, “have the added benefit of aligning exchange fees with prevailing ATS fees, and creating a more equitable competitive landscape across trading venues.” ^[1443]

In contrast, one commenter stated that the Commission had not established that the “proposed reduced fee caps do, in fact, bear a reasonable relationship to the actual costs to an exchange of a trade.” ^[1444] The same commenter stated that technological costs are not significant determinants of access fee levels, but rather that the fees reflect the magnitude of risk associated with providing liquidity as well as the value to the market that having access to those quotes provides.^[1445] The commenter further stated that the current access fee cap is not “unreasonably high,” because, among other things, “exchange platform costs to market participants have remained competitive over ( print page 81736) time.” ^[1446] As the quantitative net capture analysis shows, the access fee cap in the adopted amendments will still permit typical exchange net captures. Thus, for stocks priced greater than $1.00, lowering the access fee cap is not expected to affect the contribution to revenue and thus to the platform. The following section discusses the effects of a reduction of fees and therefore rebates on the provision of liquidity.

c. Effects on Liquidity and Transaction Costs

The main implications for liquidity from reducing the access fee caps follow the basic principles laid out in sections VII.B.3, as well as the empirical results in section VII.C.2. Most exchanges charge close to the preexisting access fee cap due, in part, to the disincentive to unilaterally reduce fees and rebates. For the same reasons that exchanges charge close to the preexisting access fee cap, the Commission believes that lowering the access fee cap will lead exchanges to charge similarly close to the new cap. Some exchanges that are currently charging less than the amended access fee cap may continue to do so. Exchanges will most likely not alter their net capture rates, implying that much of the access fee will continue to fund rebates in stocks priced above $1.00. For reasons discussed further below, the reduction in the access fee cap is likely to leave the cost of accessing liquidity unaffected for some stocks, and to reduce the cost of accessing liquidity for others.

For stocks priced less than $1.00, the reduction in the access fee cap is also likely to reduce the cost of accessing liquidity. Unlike for stocks priced $1.00 or more, for stocks priced less than $1.00 most exchanges charge an access fee without providing a rebate.^[1447] Since there is no rebate, which would serve to narrow spreads and offset the cost of the access fee, the access fee only serves to increase the cost of taking liquidity in these stocks. Therefore, a reduction in the access fee from 0.3% to 0.1% for stocks priced less than $1.00 will lower the cost to take liquidity. Some exchanges offer rebates in transactions in stocks priced less than $1.00.^[1448] In these instances, under the assumption that these exchanges will uniformly reduce their fees and rebates to maintain the same net capture rate, the reduction in the access fee cap is not expected to affect the cost of taking liquidity.

Additionally, reducing the access fee cap for stocks priced less than $1.00 from 0.3% to 0.1% of the quote price will also ensure that the cost of accessing liquidity is similar for stocks with one quote below $1.00 and another quote equal to or greater than $1.00. Consider a stock with a best bid quote at $0.99 and a best ask quote at $1.00. Under the amendments, the maximum fee to access the bid quote is 9.9 mils and is roughly equal to the 10 mils maximum fee to access the ask quote. Had the Commission lowered the access fee cap for stocks priced $1.00 or more but left it unchanged at 0.3% for quotes priced less than $1.00, the cost of accessing the sub-$1.00 quote would be relatively more expensive than the cost of accessing the $1.00 or more quote. Here, had the fee cap for quotes priced at or higher than $1.00 been reduced to 10 mils but the fee cap for sub-$1.00 trades remained at 0.3%, the maximum allowable fee to access the $0.99 quote would be 29.7 mils, roughly 3 times greater than that of accessing the ask price. Having a large differential between access fees on opposite sides of an order book would inhibit the ability of markets to reach prices most reflective of the underlying value.^[1449]

Commenters on the proposed access fee cap reduction focused on access fees for stocks priced above $1.00.^[1450] Several commenters argued for an alternative in which stocks with a half-penny tick would have an access fee of 15 mils, whereas stocks with a penny tick would have an access fee of 30 mils (hereafter “15 mils/30 mils alternative”).^[1451] As discussed in sections VII.B.3 and VII.C.2, there is a strong economic tie between the level of the access fee cap and the ability to pay rebates. The discussion among commenters focused on the effect on rebates, with some commenters who favored of the 15 mils/30 mils alternative naming the ability to pay rebates as the primary reason for the higher access fee cap; ^[1452] other commenters specifically were in favor of a ban on rebates.^[1453] One of these commenters stated that banning rebates (by requiring exchanges to revert to a pricing model where both sides of a transaction were charged a fee) would fix the problems associated with access fees and rebates, but stated that a second best solution would be to impose a uniform access fee on all exchanges.^[1454]

Commenters in favor of the 15 mils/30 mils alternative expressed the concern that a 10 mils access fee cap would reduce the flexibility to offer rebates. The commenters assert that rebates are necessary to compensate liquidity providers to post displayed (or “lit”) quotes on exchanges.^[1455] According to the commenters' logic, a lower access fee cap translates into a lower rebate, which translates into fewer lit quotes. These commenters also state that those quotes that are posted are likely to be wider.^[1456] Wider and fewer posted quotes, according to these commenters, signify lower market quality.

The Commission agrees that lowering the access fee cap is also likely to lower rebates because trading venues use access fees to fund rebates.^[1457] The Commission also agrees that quoted spreads (spreads that do not reflect rebates or access fees) on lit exchanges are likely to be wider because liquidity providers would be expected to widen spreads to compensate for the lower rebates ^[1458] —though the fact that the tick size amendments will lower spreads means that the two amendments combined may in fact lead to lower quoted spreads on some stocks.

( print page 81737)

The Commission, however, disagrees with the commenters' statements that lower rebates from lower access fees will lower market quality and increase transaction costs. The Commission draws on the economic principles articulated in section VII.B.3.^[1459] Figure 1 shows how the quoted spreads respond to an equal increase of an access fee and rebate of 30 mils assuming a stock is not tick-constrained. The change contemplated here is a shift of 20 mils because that is the difference between the baseline fee cap of 30 mils and the amended fee cap of 10 mils. When the fees and rebates change together, supply and demand intersect at the same quantity point (thus liquidity offered would be unchanged) but at a different price point, leading to a wider quoted spread. The net spread (the net cost of trading), which takes into account the fees and rebates, would be unchanged.^[1460] Thus, the Commission disagrees with commenters who argue on the basis of quoted spread that the 10 mils access fee will lead to increased trading costs and lower liquidity.

Crucially, the reasoning above applies only to a stock with an economic spread of greater than the tick.^[1461] When the economic spread is less than a tick, rebates funded by fees result in a pricing distortion, as section VII.B.3.b explains. The price at which liquidity providers would be willing to offer liquidity is less than one tick in the presence of the rebate. However, the tick forms a binding price floor, leading to an oversupply of liquidity. Specifically, the set price of liquidity results in economic rents that accrue to some at the expense of others, in this case to those able to get to the front of the queue the fastest. For these stocks, lowering the access fee will better equate supply and demand and lower transaction costs for investors broadly.

One commenter discussed the introduction of a rebate for sub-dollar trades on MEMX and MIAX.^[1462] The rebate, when introduced, was initially set to 0.3% of the dollar value of the trade,^[1463] and was reduced to 0.05% several days later. The commenter presents empirical results indicating that the effective spread fell from approximately 0.4% to 0.25% of dollar value after the introduction of the rebate,^[1464] and almost completely reversed back to 0.4% days later when the rebate was reduced to 0.05%.^[1465] In short, a rebate of 0.3% of dollar value led to a reduction in effective spreads of 0.15% of dollar value. The commenter's empirical result is consistent with the model presented in figure 1. The model presented in figure 1 predicts that a rebate will cause the liquidity supply curve to shift by the amount of the rebate—liquidity suppliers are willing to offer liquidity at a lower price on account of the rebate. In contrast to panel B of figure 1, however, the commenter's example does not include an increase in the access fee to fund the rebate; therefore, the commenter's example can be modelled by recreating panel B without the shift in the demand curve— i.e., the introduction of the rebate will cause the equilibrium outcome to shift from the point where the dotted lines intersect to the point where the solid supply curve intersects with the dotted demand curve. The model therefore has multiple empirical predictions for the commenter's example: when the rebate is introduced, without a similar increase in access fees, the model predicts that spreads will fall and the equilibrium amount of liquidity transacted will rise; when the rebate is rolled back, the model predicts that spreads will rise and the equilibrium amount of liquidity transacted will fall. The model's predictions on spreads are borne out by the commenter's data—spreads fell 0.15% when the rebate of 0.3% was in place, and spreads reverted when the rebate was rolled back.^[1466] The model's prediction on the quantity of liquidity transacted are also borne out by Commission analysis—when the 0.3% rebate was in place, the dollar-volume of sub-dollar trades increased by a factor of three.^[1467] In sum, the introduction of a rebate for sub-dollar trades on MEMX and MIAX resulted in a market reaction that is directionally consistent with the Commission's economic model presented in section VII.B.3.a and figure 1. The large and abrupt tripling of trading volume is also ( print page 81738) consistent with concerns that rebates cause excessive intermediation.^[1468]

Some comments address the question of incentives for trading on exchanges. These commenters state that, as a result of the Commission's adoption of 10 mils versus 15 mils/30 mils alternative, the volume on lit exchanges will decline.^[1469] Other commenters disagreed, stating that lower access fees could lead volume on exchanges to increase.^[1470] However, the above analysis indicates that liquidity providers would not be deterred from quoting on exchange because they could widen the quote, thereby receiving the same economic profit as they received with the rebate. Liquidity demanders would not be worse off because the reduction in access fee would offset, or, in the case of stocks with an economic spread of less than a tick, more than offset, the increase in spread.

Commenters specifically stated that posted quotes on exchange face the risk of adverse selection. They state that a premium is necessary to compete with the off-exchange market, and that the rebate provides that premium. As other commenters state, this does not take into account the access fee, which (all else equal) discourages liquidity takers from accessing exchanges. Moreover, a premium can come in the form of the spread as opposed to a rebate. While the order protection rule requires that trading centers enforce policies and procedures that are reasonably designed to prevent trades from being executed at a price worse than the protected quote, nothing prevents off-exchange non-displayed liquidity being at a better price for the liquidity taker and worse price for the maker, and indeed that happens under the current fee/rebate structure. Rather than moving liquidity off-exchange, liquidity providers could widen the difference between on- and off-exchange quotes, leaving the underlying economic tradeoff the same.

The above analysis shows that the same opportunities that are available on-exchange in today's environment are still expected to be available with the adoption of these amendments, even under the lower access fee cap (indeed, these opportunities are expected to improve due to the amendments to Rule 612). However, commenters state that the off-exchange environment may change due to the amendments.^[1471] These commenters raise concern regarding the amount of liquidity that is displayed versus non-displayed. One commenter stated that wider quoted spreads on exchange increase the range of prices at which trades execute off-exchange.^[1472] Because Rule 611 generally requires that off-exchange trades execute within the NBBO, as on-exchange spreads widen, a liquidity provider, now facing a wider NBBO, would be able to offer a wider spread off-exchange than that liquidity provider could do now. The commenter appears concerned that this ability to offer a wider spread off-exchange than previously will attract liquidity to off-exchange, and more specifically, non-displayed venues.

However, while liquidity providers would have the ability to offer wider spreads off-exchange than prior to the amendments, they would not necessarily have the incentive to do so. For while wider spreads would mean greater profits for the liquidity provider, that is only the case if their orders are filled. As stated by a commenter, off-exchange liquidity would still need to compete with on-exchange liquidity, and that on-exchange liquidity is now less expensive to access due to a lower access fee cap.^[1473] If the spread off-exchange were to widen, non-displayed off-exchange quotes would be unlikely to attract liquidity takers. Therefore, there is not an incentive for liquidity providers to migrate off-exchange due to wider spreads on exchange. To summarize, spreads may widen on-exchange increasing pricing flexibility off-exchange, even so exchanges are not expected to lose volume due to the reduction in the access fee cap through this mechanism.

One commenter stated that volatility may increase due to the wider quoted spread when the access fee reduction causes a reduction in rebates.^[1474] The Commission acknowledges that wider spreads definitionally imply a greater difference between the bid and the ask. However, spreads that better reflect the true underlying cost of liquidity are more efficient than spreads that mask this cost.

One commenter stated that a reduction in rebates will lead to more off-exchange trading, which in turn will cause the NBBO to widen, and result in worse execution for off-exchange trading, because of the way some off-exchange trading uses the NBBO as “a reference price for benchmark pricing and other risk functions.” ^[1475] First, the Commission describes above why the adopted amendments will not result in a large amount of trading moving off-exchange. Furthermore, while the Commission does expect the quoted spread, and therefore the NBBO, to widen, we disagree that this will result in worsening off-exchange executions. This commenter provided two examples of situations in which off-exchange executions might worsen. The first is an ATS that provides execution mechanisms based on the NBBO.^[1476] As explained in section VII.B.3.a, the reduction in access fees and corresponding reduction in rebates will not change the net spread on exchange. This means the cost of liquidity will not materially change. There is no reason why ATSs that base execution prices off the NBBO cannot alter their pricing formulas to preserve the same execution prices ( e.g., by executing inside the NBBO by a pre-determined amount). Indeed, a typical example of such matching mechanisms are mechanisms that match buy and sell orders at the midpoint, and this will not be impacted at all by a wider NBBO. The second example provided by the commenter was the case of retail wholesalers. The commenter states that these wholesalers ( print page 81739) “may be able to offer more levels of price improvement,” but this will come at the expense of increased costs of trading from wider spreads.^[1477] The Commission again disagrees with this assertion. Because the cost of liquidity will be largely unchanged, the price improvement ^[1478] acknowledged by the commenter will be capable of offsetting the change in quoted spread.

One commenter stated that eliminating the access fee would cost retail investors as much as $678 million per year.^[1479] The commenter arrives at this estimate by using the BJZZ algorithm to identify retail trades from TAQ data,^[1480] and computes the effective/quoted ratio (EQ ratio) for each trade.^[1481] The effective to quoted spread ratio computed as follows

They assume that spreads will widen for all trades by 60 mils in the absence of rebates. They then apply the observed EQ ratio to the hypothetical 60 mil wider spreads in the absence of rebates to compute hypothetical transaction costs for retail investors under a world without rebates.

The Commission disagrees with the commenter's assertion that retail traders will receive worse execution due to the reduced access fee cap. As this section describes, quoted spreads for stocks trading with more than one tick intra-spread are expected to widen on average by about 40 mils. However, the commenter's analysis relies on the assumption that the EQ ratio for retail order executions will remain constant.^[1482] The commenter provided no evidence to support this assumption. This assumption is important because economically what matters is not the distance of the trade price from the NBBO, but rather the distance of the trade price from the midpoint—the effective spread. The effective spread covers the costs associated with providing liquidity as well as provides the liquidity provider's profits. Assuming a constant EQ ratio in the commenter's analysis implies that wholesalers internalize retail orders at prices that are farther from the midpoint, and thus the wholesaler will earn more money without providing any additional benefit to retail traders or their broker-dealers.^[1483] Wholesalers are subject to competitive forces that apply at the level of average execution quality, and it is unlikely that market forces would allow such excess profits to wholesalers for no additional benefit to persist.^[1484] It also seems unlikely that the EQ ratio would change mechanically with the NBBO because if the NBBO itself were the primary determinate of the price level at which retail trades were internalized, and wholesalers were free to choose any price level within the NBBO, then wholesalers would routinely internalize orders at or near the NBBO implying an EQ ratio for retail trades of near 1. This is not the case. Wholesalers currently internalize retail orders at prices that are significantly inside of the NBBO ( i.e., EQ ratios significantly less than 1) suggesting that other factors besides the NBBO itself, such as distance from the midpoint, determine the transaction price of retail orders that are internalized by wholesalers.^[1485] These price levels will still be feasible for wholesalers under the amendments, and so even with a wider NBBO, wholesalers are likely to transact retail orders at similar price levels under the amendments as they are today.

Put another way, economically there is no reason to assume that relaxing a non-binding constraint, in this case widening the quoted NBBO, would have an effect on existing equilibrium behavior. The NBBO does not constitute a binding constraint for wholesale execution of many retail trades.

In cases where the NBBO does constitute a binding constraint, there are two important missing pieces from the commenter's analysis. The first is that, for on-exchange execution, the wholesaler will pay a lower access fee. Assuming (as the commenter's analysis implicitly does) that the wholesaler does not pass on these lower fees at least in part to some investors assumes a lack of competitive dynamics in the retail execution market. Second, the commenter's methodology fails to take into account the expected reduction in quoted spreads for some stocks due to the reduction in the tick size. In cases where the NBBO constitutes a binding constraint on wholesaler price improvement, then wholesalers will offer better execution on these stocks. Moreover, there are cases in which current wholesale execution may fall between the spread under the new tick size, and the previous spread. In these cases, the new tick size creates a new binding constraint, leading to better execution for retail investors. So, if anything, the combined effect of the amendments could improve retail execution quality on average.

Additionally, as a general matter, some commenters stated that the lower access fee on exchanges will make exchanges a more attractive place to access liquidity.^[1486] The Commission believes that the cost of accessing liquidity will decline for those stocks which continue to trade with a one tick wide spread; the Commission, however, disagrees that the cost of accessing liquidity will change on average for other stocks.^[1487]

Some commenters stated concerns that less liquid stocks may be more susceptible to any negative effects on liquidity from a reduction in rebates. ^[1488] ( print page 81740) Other commenters suggested that a higher fee cap should be adopted for illiquid stocks.^[1489] However, adopting a separate fee cap for illiquid stocks would introduce more complexity into the market. The Commission's response is the same as the broader concern regarding posted liquidity: spreads may widen but the cost of accessing and providing liquidity will on average not change.

One commenter stated a reduction in rebates would lead to the exit of liquidity providers, harming competition,^[1490] a lower access fee cap is expected to reduce the fees which are used to fund rebates and consequently rebates are expected to also see a reduction. The Commission acknowledges that profits of liquidity providers may fall because for stocks that remain tick-constrained, the access fee represents a transfer from liquidity demanders to liquidity providers. However, a net decrease in competition could serve to widen the spread beyond a single tick and increase the proceeds of liquidity provision thus incentivizing liquidity provision. While the Commission anticipates and is sensitive to costs to some affected parties, the Commission expects investors, more broadly to benefit.^[1491]

Another commenter stated that lowering the access fee cap would result in a “liquidity gap”; that “it is unlikely that the liquidity gap would be met by other market participants;” and that “as spreads further widen, any cost savings non-retail investor participants realize from a reduction in the access fee cap are likely to be more than consumed by the rising frictional costs.” ^[1492] The Commission disagrees that lowering the access fee cap would result in a liquidity gap that market participants would not be able to fill, because if quoted spreads widen beyond any reduction in maker rebates, liquidity providers would stand to earn higher proceeds by supplying at the wider spread. The Commission believes that competition among liquidity providers will keep the cost of accessing liquidity from rising on average in securities where the minimum quoting increment is not a meaningful constraint.^[1493] In those stocks that trade with a quoted spread equal to the tick size, the Commission expects that the reduction in access fees will reduce the net cost of accessing liquidity.^[1494] Therefore, non-retail investors would likely see a reduction in overall frictional costs. Finally, one commenter stated that reducing the access fee cap for stocks priced less than $1.00 would impact an exchange's ability to differentiate itself, and the estimated decrease in transactions revenue from these stocks would limit its investments in innovation and technologies.^[1495] The impact on an exchange's ability to offer different fees and rebates for stocks priced less than $1.00 is not likely to be large as there is not a substantial degree of differentiation across exchanges currently.^[1496] Most exchanges charge fees near or at the fee cap to liquidity takers, and only two exchanges offer rebates to liquidity takers. This is unlikely to change following a decrease in the fee cap. The Commission acknowledges a loss in revenue due to the reduction in rebates for stocks priced below $1.00. It is possible that this could impact exchange investment in new technologies. However, as discussed above in this section, the amendments to Rule 612 are anticipated to lead to more volume on exchange, and hence more trading revenue to exchanges, offsetting this effect. Moreover, as discussed earlier in this subsection, it is necessary to conform rebates for stocks priced below $1.00 with those for stocks priced above $1.00.

One commenter suggested implementing the amendments to reduce the access fee caps before the minimum pricing increments to isolate the impact of the access fee cap on its own.^[1497] The Commission has separately considered the impact of the amendments to Rule 612 with the new access fee in place; specifically, the change in the access fee will cause quoted spreads to widen, which may cause some stocks that currently would qualify for a reduction in their tick size under the adopted amendments to Rule 612 to no longer qualify for such a reduction.^[1498] However, many stocks will continue to qualify. While the Commission acknowledges that postponing amendments to Rule 612 would allow for time to study the access fee cap in isolation, there is no mechanism by which a reduction in the access fee cap, on its own, would yield the full benefits of the proposed amendments to Rule 612.

The Commission acknowledges that changing the access fee cap at the same time that the changes to Rule 612 are implemented will cause some stocks assigned to a narrower tick size to immediately trade with a quoted spread too wide to qualify for continued assignment to the $0.005 tick size bucket. However, a delay in implementing changes to Rule 612 would delay the accrual of the other benefits the Commission has identified for these changes.

d. Other Effects of the Access Fee Cap Reduction

The Commission anticipates additional benefits inherent to adopting a lower access fee cap for all securities.

Access fees that fund rebates contribute to complexity in markets because they separate both the true cost of demanding liquidity and the proceeds from supplying liquidity, as represented by the quoted half-spread. Commenters stated that lowering the access fee cap to 10 mils would reduce complexity; one commenter stated in the context of supporting a significant reduction in exchange access fees, that current pricing models “contribute to market complexity by encouraging rebate arbitrage strategies and the proliferation of new order types and trading venues designed to exploit different transaction pricing models.” ^[1499] Similarly, a second commenter supported a 10 mil fee cap and stated that maker-taker models, “introduce unnecessary market complexity through proliferation of new exchange order types (and new exchanges) designed solely to take advantage of pricing models.” ^[1500] The same commenter stated that maker-taker pricing may drive orders off exchanges to avoid access fees, and “benefit sophisticated market participants, like market makers and proprietary traders, at the expense of other market participants.” ^[1501]

One manifestation of this complexity is the potential conflict of interest between broker-dealers and their ( print page 81741) customers.^[1502] Multiple commenters stated that a benefit of a lower access fee cap is that it would mitigate such potential conflicts of interests.^[1503] Other commenters disagreed.^[1504] Some commenters state that due to the complexity, opacity, and potential conflicts inherent in the rebate structure, the Commission should go further than in the current adopted amendments and ban rebates altogether.^[1505] The Commission agrees that lowering the access fee cap reduces complexity and may help alleviate potential conflicts of interest.

Finally, the reduction in the access fee cap will improve market quality for stocks that remain tick-constrained. While the amendments to Rule 612 create a smaller tick size for stocks with narrow spreads, spreads naturally vary over time and this variation introduces the possibility that some stocks could be misassigned to a tick size because trading in the operative period differs from the evaluation period due to factors exogenous to the tick change.^[1506] Panel A of table 10 shows that approximately 13.7% of aggregate share volume will be a false negative under the amendments ^[1507] —that is, this volume will be assigned a penny tick, but will trade at a TWAQS below $0.015 and therefore trade with a tick-constrained spread a majority of the time. Moreover, some stocks may remain tick-constrained, even at the new half-penny tick. Reducing the access fee cap would lower the cost of accessing liquidity because fee-funded rebates serve as a pure tax on liquidity demanders whenever the spread is tick-constrained (creating a wealth transfer from liquidity demanders to liquidity providers); the reduction in the access fee cap will also reduce the excess supply of liquidity at this price floor.^[1508]

3. Exchange Fees and Rebates Determinable at the Time of Execution

In the current environment, as discussed in section VII.C.2, market participants often have to make trading decisions without the ability to determine the exchange fees and rebates they incur at the time of execution, and a market participant's total cost of trading can vary by a significant amount for orders with the same quoted execution price once exchange fees and rebates are accounted for. Current exchange fees and rebates are often based on the participant's relative contribution to the exchange's monthly trading volume during the contemporaneous month, and market participants need to grapple with the uncertainty of forecasting future market outcomes should they wish to know what their trading costs are at the time that they execute a trade.^[1509] Requiring fees and rebates to be determinable at the time of execution will result in the benefits of increased transparency as to what fees and rebates broker-dealer members are committed to pay when they trade, reducing potential conflicts of interest, and potentially improving broker-dealer routing decisions. These amendments will also result in costs to exchanges associated with revising existing fee schedules to bring them into compliance with the adopted amendments.

The Commission received comments from a broad range of commenters who expressed support for Proposed Rule 610(d) because it would provide enhanced transparency surrounding transaction fees and rebates and alleviate concerns related to potential conflicts of interest.^[1510] For example, one commenter stated that it agreed with the Commission's analysis of the benefits of making fees and rebates determinable at time of execution.^[1511] Another commenter stated that it agreed with the Commission's assessment “. . . of how existing exchange pricing tier models can negatively impact market participants behavior.” ^[1512] A third commenter stated that the Rule will “help to make overall trading costs more transparent.” ^[1513]

Multiple commenters pointed out the potential for exchanges' pricing models to create a conflict of interest for broker-dealers who route multiple customers' orders to the exchanges.^[1514] One commenter stated that the benefits of pricing determinable at time of execution include “help[ing] broker-dealers make better order routing decisions,” and reducing order routing incentives based “on achieving a threshold to gain a specific fee or rebate.” ^[1515] Another commenter also stated that exchanges have little incentive to make fees and rebates determinable at the time of trade because the fee and rebate structure creates “captive customers” that direct order flow to a given exchange in hopes of receiving a given fee or rebate tier in a given month.^[1516] One commenter agreed that fees determinable at time of execution has “the potential” to facilitate pass-through of fees and rebates to broker-dealers' customers, and thereby alleviate concerns about “perceived” conflicts-of-interest, but characterized such concerns about conflicts-of-interest as “misplaced.” ^[1517]

As discussed in the Proposing Release, access fees create potential conflicts of interest between brokers and end customers to the extent that brokers can route orders to exchanges with worse execution quality for end customers but more advantageous fees ( i.e., a low fee or a high rebate) for the brokers, which the brokers do not pass on to end customers.^[1518] For example, a broker may route a customer's limit order to an exchange with a high rebate for liquidity provision, but a relatively low fill rate. The end result would be a high rebate payment for the broker but potentially poor execution quality for the customer.

One commenter stated that the supposition that rebates present ( print page 81742) conflicts of interest is not supported with evidence.^[1519] There are, however, significant reasons to believe that rebates present a conflict of interest to agency brokers, even if there is uncertainty regarding to what degree those potential conflicts of interest are being acted upon. Namely, as described above, the quality of the execution accrues to the customer while the rebate accrues to the broker, which leads to a clear divergence of interests whenever the best rebate and the highest quality execution opportunities differ.

Having fees and rebates determinable at the time of execution will mitigate these potential conflicts of interest by increasing broker-dealer accountability to their customers.^[1520] This is because the broker-dealer will be able to identify which fees and rebates are associated with which customer order, which at present is not possible at the time of execution.^[1521] Having information about the fees and rebates paid as the order is filled will also improve a customer's ability to negotiate routing behavior and monitor the effects that fees and rebates have on its broker's order routing decisions and execution quality.^[1522]

In addition, fees and rebates being determinable at the time of execution can make it easier for broker-dealers to pass the actual fees and rebates on to the end customer.^[1523] Currently, it can be difficult for a broker-dealer to pass on fees and rebates to individual customers because the exchange fee and rebate pricing tier into which a broker-dealer falls, which ultimately determines fees and rebates on an individual trade, is typically based on the broker-dealer's relative activity across the concurrent month and not an individual trade.^[1524] With fees and rebates known at the time of execution, it could be possible for a broker-dealer to more quickly and easily determine the amount to be passed back to the customer. To the extent the amendments increase the proportion of exchange fees and rebates that broker-dealers pass through to end customers,^[1525] this will benefit investors and also will reduce the potential benefits broker-dealers may receive from routing customer orders to exchanges with lower fees or higher rebates and thereby reduce distortions in customer order execution quality that this may cause.

A commenter agreed with the Commission's assessment in the Proposing Release that the ability of institutional investors and other market participants to evaluate order execution and routing is significantly impeded by a lack of determinability.^[1526] A lack of determinability reduces the amount of information that a market participant can use when evaluating order execution and routing decisions. Without the fees and rebates being determinable, broker-dealers may have difficulty transmitting information about fees and rebates to customers—the broker-dealer could not commit to a fee or rebate at execution, but would rather need to explain that uncertainty regarding fees and rebates could not be resolved until the end of the month—which may impede competition among broker-dealers.^[1527] In contrast, under the adopted amendments, it will be possible for broker-dealers to relay such information about fees and rebates incurred by the broker-dealer to the customer at the time of execution.^[1528] This will make the information more usable for customers such as institutional investors, increasing their incentives to ask for such information, as well as increasing the ability of the broker-dealer to transmit the information in a timely manner.

One commenter stated that, “[f]ew brokers route directly to the exchanges . . . Rather, most brokers pay to route their orders through larger `[direct market access] DMA' brokers to gain the benefit of the large brokers' exchange fee tiers. While the Proposal would simplify life for those few large DMA brokers and proprietary trading firms who closely track where they fall on exchange fee schedules, it wouldn't directly help the referenced Market Participants.” ^[1529] The same commenter stated that most Market Participants, “judging by common practice today,” would be unable to account for fees, and the requirements would not improve transparency for off-exchange trading where venues “are not required to charge standard fees, and where fees are often held as competitively sensitive secrets.” ^[1530] The Commission agrees that under common practice today it can be difficult for most Market Participants to account for fees that are not determinable or known at the time of execution. That said, having exchange fees and rebates determinable at the time of execution will make it more likely that larger DMA brokers pass exchange fees and rebates on to their customers, including when these customers are small brokers routing their orders through them. That is because customers can better discuss fees and rebates with large DMA brokers, and the information will be more useful to customers because it is more timely. Also, while the requirements only apply to exchange fees and rebates, exchange and off-exchange trading venues compete, and transparency in exchange fees and rebates could prompt demand for greater transparency in off-exchange trading fees.^[1531]

One commenter stated that rebate tiers increase aggregate liquidity, and that fee and rebate determinability will, “disrupt existing economic incentives,” and, “negatively impact exchange liquidity provision and drive even more liquidity to off-exchange venues.” ^[1532] Another commenter stated that this rule “disrupts existing economic incentives without justification,” ^[1533] and added ( print page 81743) that they “believe there is more aggregate liquidity in the marketplace because of the incentives provided by exchange rebate tiers.” On the other hand, another commenter stated that when pricing is not determined until the end of the month, a “captive customer” is created, who “. . . must maintain levels of qualified trading activity or suffer an adverse economic consequence for up to an entire month's trading activity.” ^[1534]

The Commission disagrees that fee and rebate determinability are likely to alter the economic effects related to fee and rebate tiers. Many of the incentives created by current exchange pricing schedules can be implemented by creating tier-based pricing schedules that are conditioned on historic (as opposed to future) activity, and such pricing would continue to be permissible under the amended rules.^[1535] For example, a fee schedule might base the current fee or rebate tier on the share that the exchange member had of the exchange's total volume (or total consolidated volume) in the previous month.^[1536] The incentives for meeting a volume tier would remain but the benefits of achieving the tier would be realized in the following month. Alternatively, a fee schedule might be based on the current month's absolute volume on the exchange (as opposed to share of volume), up until the moment of execution, which the exchange member would presumably know.^[1537] Again, the incentive would be approximately the same. In general, an incentive that is based on some future quantity that cannot be known with certainty today could likely be replicated by offering the certainty equivalent,^[1538] which can be calculated using a current or past quantity that can be known with certainty. This means that the uncertain portion of current fees is not strictly necessary to provide incentives. In this respect, any costs and benefits associated with volume-based fee tiering are not expected to change as a consequence of requiring fees and rebates to be determinable at the time of execution. Therefore, the benefits of the requirements that exchange fees and rebates be determinable at the time of execution will likely not include alleviating such “captive” customers.

One commenter stated that requiring fees to be knowable at the time of execution would make “participation in exchanges' growth programs more expensive in the initial month of participation.” ^[1539] The Commission acknowledges that a new broker-dealer will not have a history of trading and therefore a tier schedule based on historical trading could not be implemented until the new broker-dealer has established a history; however, this history need not be long, and exchanges can cater to new and small broker-dealers by constructing tier schedules based on a short history.

One commenter stated that: “[R]equiring market participants to calculate their activity from the prior period in order to determine the volume fee and adjust their financial plans accordingly adds an unnecessary layer of complexity. The amount of effort required to understand the volume fee system, forecast volume fees for an upcoming period, and confirm that fees are indeed being calculated appropriately will especially disadvantage smaller brokers, who typically have less resources at their disposal for needless work such as this.” ^[1540]

The Commission disagrees that the rule will add complexity. The rule removes the need for exchange members to perform forecasts in order to determine what fee they might be required to pay in a given moment. This is because, in order for a fee to be known at the time of execution as the amendments require, the fee cannot be based on activity that will happen after the execution. The Commission acknowledges, however, that fee schedules may remain complex. The rule however does not require more from small brokers than is required currently, namely it does not require them to understand the fee volume system, forecast volume fees (indeed it eliminates the need for forecasting), or to confirm that fees are being calculated appropriately. Thus the Commission does not expect this rule to disadvantage smaller brokers, and, to the extent that forecasting future market outcomes is more difficult for small brokers, this rule may make it easier for small brokers to compete.^[1541]

Another commenter stated that determinable fees “would also limit exchanges' ability to incent market makers and other participants to quote at the NBBO and to do so in a large number of securities, including thinly-traded securities.” ^[1542] The Commission disagrees because exchanges can continue to offer incentives based on past quoting at the NBBO in a large number of securities, including thinly-traded securities. Meaningful thresholds for pricing based on NBBO quoting activity can still be set based on historic activity, so that incentives to quote at the NBBO are expected to persist.^[1543]

Another commenter stated that, “in order to achieve th[e] stated regulatory objective” of certainty as to an order's net fee and rebate price, and helping broker-dealers make better order routing decisions, “fees and rebates would have to be known prior to the time of execution (instead of at the point of execution, where the fee could vary based on the type of order being accessed).” ^[1544] The Commission acknowledges that fees can vary based on order type—for example, removing hidden liquidity may incur a different fee than removing displayed liquidity, and the broker-dealer may not know whether the order will execute against hidden liquidity prior to the time of execution. In this case, there are two sources of potential uncertainty if fees are not determinable at execution: the broker-dealer's ultimate position on the exchange's fee schedule, and the type of liquidity that is accessed. Fee determinability allows broker-dealers to know, prior to execution, what their fee will be for each type of liquidity that might be accessed; the type of liquidity that is accessed may not be known until ( print page 81744) the time of execution. Resolving one source of uncertainty prior to execution (the broker-dealer's position on the exchange's fee schedule) can help broker-dealers make better routing decisions even if there remains uncertainty along other dimensions ( e.g., the presence of hidden orders).

4. Acceleration and Implementation of the MDI Rules and Addition of Information About Best Odd-Lot Orders

The MDI Rules were designed to increase transparency into, among other things, the best priced quotations available in the market.^[1545] The MDI Rules expanded NMS data and established a decentralized consolidation model, pursuant to which competing consolidators will eventually replace the exclusive SIPs for the collection, consolidation, and dissemination of NMS data.^[1546] As discussed in section V.A, the Commission adopted a phased transition plan for the MDI Rules,^[1547] which has been delayed.^[1548] Because the MDI Rules are not yet implemented, information about odd-lot orders in NMS stocks is only available on individual exchange proprietary data feeds, and market participants interested in quotation information for individual odd-lot orders must purchase these proprietary feeds.^[1549] Due to the delays in the MDI Rules' implementation, as discussed in the Proposing Release,^[1550] the Commission is adopting an accelerated implementation schedule, with some modifications from the proposal, so that market participants, including investors, will be provided with the enhanced transparency benefits earlier than anticipated in the MDI Rules.

The amendments will result in four changes to NMS data. Two of the changes will accelerate the implementation of specific aspects of MDI, namely the round lot definition and the inclusion of odd-lot quotations priced better than the NBBO in NMS data. This acceleration will result in realizing the economic effects of these MDI Rules sooner. The Commission acknowledges that the economic effects of the acceleration will be temporary, only lasting until the accelerated aspects of the MDI Rules would otherwise have been implemented.^[1551] The amendments will also impose a new requirement on the exclusive SIPs to disseminate the accelerated odd-lot information until the exclusive SIPs are retired, the effect of which is to result in the odd-lot information being disseminated sooner.^[1552] The amendments, however, present the possibility that the new requirements on the SIPs can reduce competing consolidator competition if the additional requirements dissuade some market participants from choosing to become competing consolidators, which could reduce the expected benefits of the MDI Rules.^[1553] The amendments will also require the dissemination of a standardized best odd-lot order or BOLO. The primary economic effect of this requirement will be to provide an additional standard benchmark that market participants could use to gauge execution quality—particularly for smaller or odd-lot orders.^[1554]

Commenters questioned the sufficiency of the proposed 90-day implementation timeline for the acceleration of MDI Rules and the addition of the BOLO to NMS data. One commenter discussed the need for downstream programming changes for a variety of market participants: SIPs, recipients of market data, and broker-dealers.^[1555] This commenter stated that implementation is likely to take over a year. Several other commenters stated that implementation will take longer than 90 days.^[1556] One commenter discussed changes required for the SIPs: “The changes required for SIPs are relatively straightforward from a conceptual perspective but will require significant undertakings before they can be implemented.” This commenter then discussed the necessary steps, including: notice and lead time that data providers must give their clients; product decisions vendors need to make; development and testing for exchanges, vendors, and subscribers; traffic and capacity decisions given the change in message traffic; and communication and education for end users.^[1557] Another commenter mentioned costs from converting round lots to actual share size in processing and display systems.^[1558] The Operating Committee of the CTA-UTP Plans commented on the need for system design, equipment procurement, and industry testing.^[1559] This commenter referenced a 2022 Odd Lots Proposal by the SIPs, which estimated a 10-12 month time frame for providing only top-of-book odd-lot quotations by the SIPs; given the additional requirements in the Proposal, the commenter estimated that implementation would take more than 12 months.

In light of these comments, the Commission is modifying the proposed compliance date for the round lot and odd-lot information definitions to extend the time for compliance. The Commission acknowledges that, all else equal, a shorter implementation timeline may result in greater total costs for the acceleration of the MDI Rules. Consistent with what commenters suggested was necessary for systems changes and testing among a variety of market participants, the adopted amendments extend the proposed compliance date for round lot definitions to approximately 12 months after the effective date of the amendments; for odd-lot information, the compliance date is extended to ( print page 81745) approximately 18 months after the effective date.^[1560]

The 12-month implementation timeline for the round lot definition aligns with the compliance date for the amendments to Rule 612, allowing for the amended minimum pricing increments and new round lots to begin concurrently. This concurrence is expected to reduce the potential for operational risks and investor confusion from changing systems separately for both the amendments to Rule 612 and the acceleration of the MDI Rules, and reduces operational risks from a compressed timeline. Further, to the extent that commenters specifically discussed the timeline needed for the round lot definition implementation (as opposed to the timeline needed for both the round lot and odd-lot information definitions), no commenter stated that the round lot definition would require more than 12 months.

The longer 18-month implementation timeline for the odd-lot information definition is commensurate with the added complexity of disseminating new data fields for odd-lot quotations at multiple levels inside the NBBO. Additionally, the 18 month timeline is broadly consistent with the 10-12 month timeline that the SIPs estimated to be necessary for the 2022 Odd Lots Proposal; the longer timeline for the odd-lot information in these amendments allows for the fact that odd-lot information in these amendments includes quotations at each price level inside the NBBO, whereas the 2022 Odd Lots Proposal only included top-of-book odd-lot quotations. Further, the SIPs have been discussing the addition of odd-lot quotation information to the SIP data for several years and should be able to make the necessary adjustments to their processors in the adopted timeline. Finally, no commenter stated that the odd-lot information definition would require more than 18 months to implement. The adopted timeline allows market participants more time for each of the steps required for implementation than was initially proposed, which will address the concerns raised by commenters and help market participants to complete the tasks in a cost-effective manner. The compliance costs discussed in section VII.D.5.c reflect costs associated with the adopted timeline.

a. Round Lot Definition

As discussed in the Proposing Release,^[1561] the round lot definition in the MDI Rules will result in numerous economic effects, and the amendments will result in realizing these effects sooner. The primary effects stem from the MDI Rules round lot definition shrinking the NBBO for stocks priced greater than $250.^[1562] Other effects of changing the round lot definition include increased transparency and better order execution,^[1563] as well as any effects from potentially having more orders routed to exchanges instead of ATSs.^[1564] The costs of changing the round lot definition derive from upgrading systems to account for additional message traffic and modifying and reprogramming systems.^[1565] The Commission also expects that changing the round lot definition will impact the mechanics of other rules and regulations.^[1566] These economic effects will be realized earlier than is currently estimated under the existing MDI timeline because this portion of the MDI Rules is currently not set to be implemented until the end of the implementation timeline for the MDI Rules. Further, because the first steps of the timeline for the MDI Rules have not been accomplished,^[1567] and the Commission is uncertain when exactly the round lot definition otherwise will be implemented, the degree of the effect of the acceleration is unknown.^[1568]

The Commission recognizes that the earlier implementation of the round lot definition could affect the tiered tick structure by sooner increasing the number of stocks subject to a minimum pricing increment of less than $0.01, but the Commission does not expect this effect to be substantial. Specifically, a mechanically tighter NBBO will reduce the time weighted average quoted spread used to determine the appropriate tick increment for stocks priced greater than $250. However, higher-priced stocks also tend to have higher spreads that are unlikely to narrow enough for the amendments to result in a smaller minimum pricing increment.^[1569]

As discussed in the Proposing Release,^[1570] the Commission also recognizes that both the reduction in tick size and accelerating the definition of round lot will reduce the depth of liquidity at the NBBO. These effects might amplify each other in a small set of stocks. A reduction in tick size will spread liquidity across more price levels, while the implementation of the round lot definition will result in displaying smaller quotes at the NBBO. The amendments could result in this effect being amplified for stocks that trade above $250 with spreads narrower than $0.015 as these stocks will receive both smaller tick and smaller round lot sizes. The number of such affected stocks is likely very small.^[1571] The reduction in depth at the NBBO will temporarily reduce the information about liquidity available in the market for market participants who rely on public data feeds. However, the ( print page 81746) eventual inclusion of the depth of book information in consolidated market data under the MDI Rules, once implemented, will render this effect temporary. At that point in time, consolidated market data is expected to contain depth information at more price points, which will largely counteract the effects of a reduction in displayed depth from the implementation of the round lot definition and even from a reduction in tick size.

Multiple commenters further discussed the potential interaction of the reduction in tick size and the MDI round lot definition. One commenter stated that the resulting reduction in depth at the NBBO would make the NBBO less relevant and subject to more instability: “With a lower notional value earning protected status at the NBBO, even accessing 100 shares of liquidity would likely move a stock in one of the new tiers' multiple price levels. Furthermore, these smaller notional amounts reduce the risk taken to queue jump displayed orders by placing slightly more aggressively priced orders ahead of them.” ^[1572] A separate commenter stated that the reduced liquidity at the NBBO will require investors executing large orders to, “sweep across multiple market centers, exposing them to greater execution risk. Together, these changes would reduce the depth at the NBBO, leaving it subject to greater volatility and, in turn, reducing reliability and execution quality for retail investors.” ^[1573]

The Commission acknowledges that these are possibilities, but the interaction of the reduction in tick size and the MDI round lot definition is not expected to have a material impact on the NBBO of affected stocks. In order for a stock to be impacted by both the new round lot categories and the smaller tick size, it would need to have a price over $250 with a spread below $0.015; this implies that the percentage spread must be below 0.006%.^[1574] To put this in perspective, consider the sample of all stock-days in 2023.^[1575] For each stock-day, divide its TWAQS by its price to measure its percentage spread. Only 1% of this sample has a percentage spread below 0.015%— i.e., the first percentile of the sample's percentage spread is 2.5 times higher than the percentage spread of the stocks affected by both the new round lot categories and the smaller tick size.^[1576] This implies that the affected stocks are exceptionally liquid—they are well within the first ( i.e., most liquid) percentile when liquidity is measured using percentage spread. The exceptional liquidity of the affected stocks will likely protect their NBBO from material deterioration.

The Commission does acknowledge that the amendments will increase the likelihood that a 100-share order will walk the book for stocks affected by both a reduction in the tick and the round lot definition; ^[1577] however, the high price (over $250 per share) of the affected stocks implies that the notional amount of such an order will be substantially larger than the notional amount of a 100-share order for a typical stock unaffected by the MDI Rules round lots. Therefore, a round lot under the new definition will continue to reflect a meaningful notional amount even with a reduced number of shares,^[1578] thereby ensuring that regulatory protections for round lots—such as those governing the display, dissemination, and protection of orders under Rules 602, 604, and 611—continue to focus on orders of significant size. Likewise, the amendments will increase the likelihood that particularly large orders may need to sweep across multiple market centers; however, fixing the notional amount of an order, a high-priced stock will require fewer shares, which reduces the need to sweep across multiple market centers. Therefore, the amendments will continue to protect a meaningful notional amount at the NBBO after the round lot size is reduced for these high-priced stocks. Similarly, the amendments will make it incrementally easier for traders to queue jump— i.e., penny—protected orders in affected stocks, but pennying will remain difficult due to the relatively high price of the affected stocks. That is, a trader would still need to commit a relatively high notional amount to jump the queue with a protected order. Finally, the concern with pennying is that a market participant can jump the queue by posting economically trivial price improvement; for the stocks affected by both the tick reduction and the round lot definition, however, posting a protected order that improves on the NBBO is likely to provide meaningful price improvement. To jump the queue with a protected order, a trader would need to post an order that is: (1) priced better than existing orders by $0.005 (which is large relative the stock's typical spread of under $0.015), and (2) with a $10,000 notional value ^[1579] (which is larger than the notional value required to queue jump for stocks priced under $100). Such an order would thereby require the trader to offer price improvement that is economically large relative to the costs of trading the stock, and relative to the notional amount required to jump the queue in most other stocks. Therefore, the Commission continues to expect that the acceleration of the round lot definition will protect a meaningful amount of liquidity at the NBBO for stocks receiving the tick reduction.^[1580]

One commenter encouraged the Commission to “comprehensively review its proposed changes to tick sizes, access fees and round lots to better evaluate how these changes together would impact liquidity.” ^[1581] As discussed in the preceding paragraphs, the Commission expects that a very small number of stocks (two as of Nov. 30, 2023 ^[1582] ) would be ( print page 81747) subject to both a change in round lot size and tick size because very few stocks have both a price above $250 (to qualify for a reduced round lot) and a TWAQS below $0.015 (to qualify for the tick reduction). The exceptional liquidity of the stocks with both these characteristics is unlikely to be materially affected by the interaction of the tick reduction and the reduction in the round lot. With respect to the reduction in the access fee cap, the Commission expects effects of that change to be independent of the effects of the round lot definition for two reasons. First, the reduction in the access fee cap is unlikely to affect a stock's round lot size. This is because the reduction in the access fee cap—to the extent that it affects quoted prices as discussed in sections VII.B.3 and VII2—is not expected to move quoted prices by more than one tick. Round lots, on the other hand, are determined by whether a stock is priced above $250, $1,000, or $10,000; the probability that the reduction in the access fee cap affects a stock's round lot assignment is therefore miniscule. Second, the reduction in the access fee cap and the reduction in the round lot are expected to have separate but unrelated effects on the NBBO. Stocks that receive a round lot less than 100 shares are expected to have a narrower NBBO because the new round lot definition will include quotes at better prices in core data that were previously excluded from being reported because they consisted of too few shares.^[1583] Access fees do not affect the existence of these better priced quotes with fewer shares. The reduction in the access fee cap is expected to put upward pressure on quoted spreads and therefore widen the NBBO; ^[1584] this effect operates at a per-share level because fees and rebates are assessed per-share, making the number of shares in a round lot irrelevant. Therefore, the Commission does not expect the round lot definition to interact with the reduction in the access fee cap.

For institutions that do not purchase proprietary feeds, the MDI Rules once implemented will result in the display of five levels of depth-of-book in NMS market data. To the extent that the amendments result in liquidity spread out across more price levels due to the round lot reduction,^[1585] then these changes would reduce the value of these NMS market data. However, the high price of stocks affected by the round lot reduction implies that the amount of visible notional liquidity will remain high relative the notional liquidity visible for a typical stock unaffected by the MDI round lots.^[1586]

One commenter stated that, “the Commission failed to note how much actual volume takes place in any of the three proposed [round lot] tiers and what challenge, if any, changes to round lot definitions would address.” ^[1587] In the MDI Rules, the Commission estimated that approximately 1% of stocks, 3% of share volume, and 30% of dollar volume will be affected by the new round lot tiers.^[1588] The Commission also discussed in the MDI Rules the effect of changing the round lot size on transparency and execution quality.^[1589]

The commenter further suggested that the implementation of the round lot definition could cause confusion among retail investors: “Currently, retail customers, especially those trading options, understand one option contract represents one hundred shares. Frequently, it is simply referred to as a `round lot.' Changes in round lot sizes will most certainly create confusion in this area for retail investors.” ^[1590]

The Commission acknowledges that there may be a learning curve associated with the new round lot definition. However, as discussed in the MDI Adopting Release, investor confusion will be temporary for four reasons. First, market participants already regularly trade in increments other than 100 shares.^[1591] Second, most NMS stocks will continue to have a round lot of 100 shares. Third, core data will be distributed with the size of the NBBO and best quotes in shares rather than in the number of round lots. Fourth, broker-dealers and other market participants will modify or develop their systems to automatically keep track of the round-lot changes.^[1592] Further, any confusion from the accelerated round lot definition would have occurred eventually under the original MDI timeline, so the incremental effect of MDI acceleration on investor confusion is minimal.

Other commenters expressed concerns about monthly updates to stocks' round lots. Each update requires market participants to “reconfigure their investment platforms and trading systems to make any modifications effective.” ^[1593] The same commenter pointed out that, under the proposal, round lots would be assigned at discrepant intervals from tick assignments. Commenters also stated that these system updates may increase complexity and operational risk, and further contribute to investor confusion.^[1594]

While any periodic system update can pose a risk of glitches, the amendments assign round lots and tick sizes on the same schedule—every six months in May and November. Syncing the updates like this will reduce costs relative to the monthly round lot updates in the baseline by reducing the number of times that firms are required to “open the hood” of trading systems. To further reduce these costs and provide opportunity for industry testing, the adopted amendments incorporate a one-month gap between evaluation periods and the implementation of updated round lots and tick sizes. It is possible that the amendments to the round lot definition— i.e., the less frequent evaluation periods and the lag between evaluation and implementation—may cause a stock's round lot to be less reflective of its price than would have otherwise been the case under the original MDI Rules round lot definition ( e.g., if a stock's price falls after the evaluation period, it may be assigned to a round lot that is too low for the next six months). This imprecision in round lot assignment, however, is unlikely to significantly reduce the benefits of the MDI Rules for two reasons. First, to the extent that a stock is assigned a round lot based on stale information, this assignment will be corrected within six months at the next evaluation date. Second, given the significant distance between the round lot thresholds ( i.e., $250, $1,000, and $10,000), any deviation in a stock's round lot as a result of these amendments is likely to be due to stocks ( print page 81748) that are near a threshold; for these stocks, the cost of being including in the next smallest or largest tier is likely to be small.

Finally, one commenter suggested alternative price thresholds for the round lot definition; these thresholds would result in five round lot tiers.^[1595] The Commission continues to believe, as stated in the MDI Adopting Release, that a five-tiered approach is unnecessarily complex, and that the adopted tiers promote a smoother transition to a price-based round lot structure.^[1596]

b. Including Odd-Lots in NMS Data

As discussed in the Proposing Release,^[1597] the acceleration of the implementation of the MDI Rules that expand the NMS data to include odd-lot information inside the NBBO will result in sooner realizing some, but not all, economic effects of this aspect of the MDI Rules.^[1598] The odd-lot information could be useful to consumers of SIP data that could use it to make better inferences about market conditions, thereby leading to investment decisions that more fully reflect market conditions and increased market efficiency. This odd-lot information could also lessen the effect of a reduction in displayed depth at the NBBO resulting from either a smaller tick size or a smaller round lot. Specifically, expediting inclusion of odd-lot data will allow individual investors whose broker-dealers subscribe to the data to visually monitor the market sooner than they would otherwise.^[1599]

Multiple commenters remarked on the growing importance of odd-lot activity for the overall equities market. One commenter stated that odd-lots “provide a meaningful source of liquidity across all trading sessions and stocks, representing 54.8% of all trades in the U.S. financial markets, up from 43% at the beginning of 2020.” ^[1600] Similarly, another commenter stated that including odd-lot information in consolidated market data will “improve transparency and increase the usefulness of the consolidated tape given the growing prevalence of market activity in sub 100 share quantities . . . . Allowing for access to this information, as proposed, would therefore likely result in increased pre-trade transparency for both retail and institutional investors and bolster execution quality.” ^[1601]

In addition, the amendments will change the timing and magnitude of compliance costs and other costs.^[1602] One commenter estimated that quotation traffic will increase at least 35% as a result of adding odd-lot data to the SIP feeds; this estimate was based on a previous proposal by the CTA and UTP Operating Committees, which proposed a more limited inclusion of odd-lot data to the SIP feeds.^[1603] The associated costs will include: the cost for exclusive SIPs to upgrade existing infrastructure and software to handle the dissemination of additional message traffic,^[1604] the cost to SROs to implement system changes required in order to make the data needed to generate odd-lot information available to exclusive SIPs, and the cost of technological investments market participants might have to make in order to receive the SIP data.^[1605]

While these aforementioned economic effects of including odd-lots in NMS data will be realized sooner, the Commission does not expect that the amendments will accelerate all the effects described in the MDI Rules related to adding to NMS data odd-lot information inside the NBBO. The amendments will not accelerate the decentralized consolidation model and will therefore not accelerate the benefits from allowing some market participants to reduce data expenses required for trading by providing a reasonable alternative to some market participants to proprietary data.^[1606] As such, the amendments will also not accelerate the cost to users of proprietary data whose information advantage will dissipate somewhat. In particular, the Commission does not believe that adding the specified odd-lot information to the exclusive SIPs will result in low-latency traders substituting the exclusive SIPs for their current proprietary data usage. This is because a key component of the MDI Rules for this functionality is an expected reduction in latency of NMS data anticipated from the competing consolidator model of NMS data distribution.^[1607] The exclusive SIPs are not expected to be fast enough to replace proprietary data because existing SIP latency will not be reduced or affected by this Rule. Thus, the amendments will not accelerate the benefits anticipated in the MDI Rules that pertain to using low-latency odd-lot information. Instead, the Commission expects these effects to be realized after the implementation of all MDI Rules.

Market participants who decide to receive and use odd-lot quotation information from the exclusive SIPs under these amendments will also incur costs if the acceleration results in additional systems changes when competing consolidators begin offering odd-lot information. Specifically, market participants that decide to receive odd-lot quotation information from exclusive SIPs will need to make systems changes upon implementation of the acceleration of the MDI Rules in order to receive the odd-lot quotation information. Because the data specifications of the competing consolidators are unknown and could differ from the data specification of the exclusive SIPs, market participants receiving odd-lot information from the exclusive SIPs could also need to make systems changes again to receive the odd-lot information from a competing consolidator upon full implementation of the MDI Rules.^[1608] If there are significant fixed costs associated with system changes that are incurred on each change, then multiple system changes will be inefficient and could increase costs. Because market participants who receive odd-lot quotation information from the exclusive SIPs may need to make an extra systems change stemming from this Rule—one change to receive the data from the exclusive SIPs, and ( print page 81749) potentially another change to receive the data from a competing consolidator—some market participants may decide not to implement systems changes to make use of the accelerated implementation of the odd-lot information and, instead, wait until the MDI Rules are fully implemented. This would dampen some of the benefits of accelerating the inclusion of odd-lot quotation information.

To the extent that some market participants store SIP data for various purposes (such as transaction cost analysis), the acceleration of the MDI Rules could hasten an increase in storage costs because the amount of SIP data increases with the inclusion of odd-lot data. Many factors affect these costs in total, such as the number of market participants storing SIP data, the data structures they use to store SIP data, whether these market participants will choose to store all or just some of the SIP data provided by the amendments, and the period over which the amendments will affect these storage costs. Because the Commission does not have information on how many market participants will store MDI odd-lot information and the methods they will use to do so, the Commission is unable to estimate these costs.

One commenter stated that displaying odd-lot quotes “could lead investors to expect prices that are not available.” ^[1609] The Commission acknowledges that there may be a learning curve associated with the dissemination of odd-lots on the SIP. However, any confusion from the accelerated dissemination of odd-lot quotes would have occurred eventually under the original MDI timeline, so the incremental effect of MDI acceleration on investor confusion is minimal. Further, as discussed in the MDI Adoption Release, the Commission acknowledges that many retail investors may not directly view the entire content of expanded core data—retail brokers may decide not to offer their customers direct access to all of the odd-lot information but may rather customize products derived from odd-lot information.^[1610] The provider of these customized products is expected to supply the information in a way that does not confuse the provider's customers. To the extent that retail brokers allow some customers to directly utilize all of the odd-lot information, the customers who choose to do so will likely be sophisticated—as evidenced by their seeking out the information—and will likely not be confused.^[1611]

c. Dissemination of Odd-Lots in SIP Data

The Amendments require the exclusive SIPs to disseminate odd-lot data.^[1612] As discussed in the Proposing Release,^[1613] this requirement will help realize the benefits of accelerating the implementation of including odd-lot information in NMS data while imposing costs on exclusive SIPs and potentially on market participants.^[1614] The MDI Rules do not require the competing consolidators to disseminate odd-lot data. However, the Commission estimated in the MDI Rules that at least one competing consolidator will do so because there will be demand for the data.^[1615] These amendments, though, do not accelerate the competing consolidator model. Unlike competing consolidators, each exclusive SIP is the only distributor of the entirety of its data and may lack the incentive to disseminate the data. As a result, the Commission cannot rely on the exclusive SIPs to disseminate the odd-lot information prescribed by the MDI Rules absent a requirement to do so; the benefits of the acceleration could therefore be at risk without the Amendment to Rule 603's requirement for the SIPs to disseminate.^[1616]

While the inclusion of the odd-lot data could impose costs on those who receive and use exclusive SIP odd-lot data,^[1617] the requirement that exclusive SIPs disseminate the data could also impose costs on those who receive but do not have an interest in using odd-lot information provided in SIP data. These costs would vary based on how the exclusive SIPs decide to implement the dissemination of the MDI odd-lot information. For example, if the exclusive SIPs offer a separate data feed for odd-lot quotation information, then market participants that do not have an interest in this information may not incur any additional costs because they would not need to subscribe to this data feed. If the exclusive SIPs instead incorporate MDI odd-lot quotation information into an existing data feed, then market participants may incur costs to update their systems to filter out the unwanted odd-lot information; the Commission is unable to estimate these costs because they would vary across market participants and depend upon each market participant's existing infrastructure, which is unknown to the Commission. Further, such SIP data users could incur the cost of any SIP data fee increases intended to offset the costs to exchanges and exclusive SIPs.^[1618] However, SIP data fees did not increase when the exclusive SIPs started to include odd-lot trades.

d. Best Odd-Lot Order Definition

The amendments go beyond the MDI Rules by requiring that NMS data also include information on the best priced odd-lot orders across all markets. Including the best odd-lot order in a standardized form will offer market participants a standard benchmark, like the NBBO, to use to measure execution quality. As discussed in the Rule 605 Amendments ^[1619] a market center may be able to internalize an order and claim price improvement relative to the NBBO even if better priced odd-lots are available at another market center. A standardized best odd-lot benchmark may give market participants that receive it valuable information for evaluating broker-dealers and market centers. Including this benchmark in NMS data allows the information to be readily available to a broad set of market participants, including those investors to whom broker-dealers choose to make this information available.^[1620]

( print page 81750)

Currently, this information is only available to market participants who have proprietary data feeds, and even then there could be differences across market participants with these data in terms of how exactly market participants calculate the best odd-lot order (or how many proprietary feeds they include). The best odd-lot information in the NMS data will provide a standardized benchmark that reflects the best odd-lot price consolidated across all national securities exchanges and national securities associations. This benchmark may allow more market participants to better monitor the execution quality of their broker-dealers and send more trading volume to broker-dealers with better performance.^[1621] One commenter highlighted the value of this new benchmark: “. . .transparency requires that the units used to represent the range of prices available in the market match the units in which participants typically quote and trade.” ^[1622] For market participants who receive the BOLO and typically execute small trades, the best odd-lot order will provide them more relevant information on available orders. Thus, including the best odd-lot information could enhance competition among broker-dealers leading to better trade execution and perhaps a lower cost to customers for execution services.

One commenter expressed concern that the best odd-lot order would result in “displaying locked/crossed markets.” ^[1623] It is possible for the best odd-lot bid to be at a price equal to or higher than the best odd-lot ask; in these cases, the best odd-lot order would show a locked or crossed market.^[1624] Academic research shows that the NBBO does get locked and crossed from time to time.^[1625] These tend to be fleeting events.^[1626] Because the BOLO will provide prices inside the NBBO, the BOLO will likely be crossed or locked more frequently than the NBBO. However, it is unclear what practical effect a locked or crossed BOLO would have on financial markets or those that use the BOLO. Market participants are already well versed in using the NBBO, which can be locked and crossed from time to time, so it is likely that they would use similar techniques for dealing with locked and crossed markets when, for example, benchmarking relative to the BOLO.^[1627] Further, market participants who subscribe to proprietary data feeds already have access to information on when the best odd-lot orders may lock or cross each other; the rule amendment merely extends this information to market participants who do not subscribe to proprietary data feeds. As more market participants see the information contained in the BOLO, there may be fewer instances of locked and crossed odd-lot quotes— e.g., more market participants will have the information needed to arbitrage crossed odd-lot markets. Finally, a locked or crossed BOLO will be less disruptive than a locked or crossed NBBO because Rule 610 of Regulation NMS requires SROs to adopt rules requiring their members reasonably to avoid displaying quotations that lock or cross protected quotations.^[1628] However, the BOLO does not establish a protected quote, and so a locked or crossed BOLO would not trigger the same reaction by SROs and their members as a locked or crossed NBBO.

Other commenters discussed the effect BOLO may have on investor confusion. Two commenters stated that: “Calculating and publishing an odd-lot NBBO risks creating significant investor confusion due to the appearance that a new benchmark is being established even though odd-lots are treated differently than round-lots under Commission regulations. Rather than taking steps to prevent unnecessary investor confusion, the Commission encourages it by suggesting that the odd-lot NBBO is a `standard benchmark' that could be used by investors `to measure the amount of price improvement they receive for the execution of their orders.' ” ^[1629] The commenters continued: “The odd-lot NBBO is not a standard benchmark, since the size associated with these quotes will vary greatly as opposed to the actual NBBO, which always represents a round-lot.” ^[1630] Similarly, some commenters stated that the BOLO will not provide a useful benchmark and may instead distort price improvement statistics.^[1631]

The Commission acknowledges that the BOLO is not, at present, a widely used and standard benchmark. This is likely because the requisite data is not broadly distributed and is only available to market participants who have proprietary data feeds. In contrast, the NBBO is broadly distributed in NMS data and is also more widely used as a benchmark. The Commission believes that including the BOLO in NMS data will similarly allow market participants to more easily use the BOLO as a benchmark if they choose to.^[1632]

The Commission also recognizes that an odd-lot price that is better than the NBBO may not reflect sufficient quantity to execute certain orders, particularly larger-sized orders, and, as a result, price improvement relative to the BOLO will be more relevant in some cases than for others. However, market participants are already well versed in interpreting nuanced benchmarks—for example, holding the round lot size constant, the NBBO may reflect a different amount of dollar liquidity based on the price of the stock. Furthermore, the size available at the NBBO of any particular stock might be a great deal more than a single round lot. This means that market participants already deal with the distinction between the price of a benchmark and the amount of shares available at that benchmark price. Indeed, while one commenter points out the challenge of comparing a 500-share order to a 10-share odd-lot,^[1633] a similar challenge already exists in comparing a 1000- ( print page 81751) share order to a 100-share round lot. This challenge is understood and handled already; market participants already know that quantity must be taken into account when making comparisons. The Commission expects that market participants who will benchmark their trades with the BOLO will generally have comparable levels of sophistication as investors who currently use the NBBO benchmark; given that users of the NBBO benchmark are already adept at accounting for order size, these users should not be confused by the BOLO. It is important that market participants have access to a variety of benchmarks to meet their various purposes, and the BOLO will provide a useful data point for market participants to consider in addition to the NBBO.

5. Compliance Costs

Various market participants will incur one-time implementation costs as well as ongoing compliance costs to comply with the Rule. These costs and their computations are discussed in greater detail below, but are summarized in table 15. Some of the costs are associated with the acceleration of aspects of the MDI Rules and will only represent new costs (which are not already anticipated under the MDI rules) if the exclusive SIPs do not become competing consolidators once the MDI rules are fully implemented.

Table 15—Compliance Cost Estimates

Rule	Affected entities	One-time costs	Ongoing costs	Number of entities	Total one- time costs	Total ongoing costs
612	All trading venues a	$156,000		277	$43,212,000
612	Listing exchanges b	33,000	9,000	5	165,000	$45,000
612	SIPs c	13,000	9,000	2	26,000	18,000
612	Broker-dealers with order entry systems d	33,000		1,161	38,313,000
612	Broker-dealers with smart order routers e	11,000		270	2,970,000
610	Exchanges f	57,000		15	855,000
600, 603	Exchanges g	3,500	6,500	16	56,000	104,000
600, 603, 612	SIPs h	613,000	174,000	2	1,226,000	348,000
Total					86,823,000	515,000
Sources: Across estimates below, salaries are derived from SIFMA's Management & Professional Earnings in the Securities Industry 2013, modified to account for an 1,800-hour work-year and inflation, and multiplied by 5.35 to account for bonuses, firm size, employee benefits and overhead. The burden hours estimates are based on Commission's experiences with burden estimates.
a   See Proposing Release, supra note 11, at 80333. The Proposing Release's estimate of $140,000 is adjusted to $156,000 to account for an 11.4% increase in the Producer Price Index for Data Processing, Hosting and Related Services from December 2014, when the $140,000 estimate was first made. See U.S. Bureau of Labor Statistics, Producer Price Index by Industry: Data Processing, Hosting and Related Services: Hosting, Active Server Pages (ASP), and Other Information Technology (IT) Infrastructure Provisioning Services [PCU5182105182105], retrieved from FRED, Federal Reserve Bank of St. Louis; available athttps://fred.stlouisfed.org/​series/​PCU5182105182105 (Mar. 11, 2024).
b  The $33,000 estimate per listing exchange is based on the following calculations: $19,950 (hourly rate for Sr. Programmer at $399 for 50 hours) + $6,860 (hourly rate for Sr. Systems Analyst at $343 for 20 hours) + $3,730 (hourly rate for Compliance Manager at $373 for 10 hours) + $2,940 (hourly rate for Director of Compliance at $588 for 5 hour) $33,000, for a total annual monetized burden of $165,000 ( i.e., $165,000 = $33,000 × 5 listing exchanges). The $9,000 estimate per listing exchange is based on the following calculations: ($2,640 (hourly rate for Compliance Attorney at $440 for 6 hours) + $746 (hourly rate for Compliance Manager at $373 for 2 hours)) × 4 tick size revisions per year) $9,000, for a total annual monetized burden of $45,000 ( i.e., $45,000 = $9,000 × 5 listing exchanges).
c  The $13,000 estimate per listing exchange is based on the following calculations: $4,788 (hourly rate for Sr. Programmer at $399 for 12 hours) + $1,715 (hourly rate for Sr. Systems Analyst at $343 for 5 hours) + $3,730 (hourly rate for Compliance Manager at $373 for 10 hours) + $2,940 (hourly rate for Director of Compliance at $588 for 5 hour) $13,000. The $9,000 estimate per listing exchange is based on the following calculations: ($2,640 (hourly rate for Compliance Attorney at $440 for 6 hours) + $746 (hourly rate for Compliance Manager at $373 for 2 hours)) × 4 tick size revisions per year) $9,000.
d  The $11,000 estimate per system change is based on the following calculations: ($2,005 (hourly rate for Attorney at $401 for 5 hours) + $2,980 (hourly rate for Compliance Manager at $298 for 10 hours) + $4,640 (hourly rate for Programmer Analyst at $232 for 20 hours) + $1,325 (hourly rate for Senior Business Analyst at $265 for 5 hours) ≉ $11,000. The Commission expects that broker-dealers are likely to have to undertake 3 system changes, for a total one-time expense of $33,000. See also Transaction Fee Pilot Adopting Release, infra note 1644, at 5271 n.770.
e  The $11,000 estimate per broker-dealers with smart order routers is based on the following Manager at $298 for 10 hours) + $4,640 (hourly rate for Programmer Analyst at $232 for 20 hours) + $1,325 (hourly rate for Senior Business Analyst at $265 for 5 hours) ≉ $11,000. See also Transaction Fee Pilot Adopting Release, infra note 1644, at 5274 n.796 where the cost to broker-dealers to update systems for the TSP was estimated to be $9,000. Here, we are allowing for an additional 10 hours of Programmer Analyst time.
f   See Proposing Release, supra note 11, at 80333.
g  The additional $3,500 in one-time costs and $6,500 in ongoing costs represent a 5% addition over the costs reported in the MDI release. See supra note 10, section V.C.2(d)(ii) to account for the new requirement to send the necessary data to generate odd-lot information to the exclusive SIPs.
h  The $613,000 estimate in one-time costs is based on the following calculations: $33,000 (costs under the amendments to Rule 612 to update data specifications and internally and externally test the updates) + $167,670 ($83,790 (hourly rate for Sr. Programmer at $399 for 210 hours) + $61,740 (hourly rate for Sr. Systems Analyst at $343 for 180 hours) + $7,460 (hourly rate for Compliance Manager at $373 for 20 hours) + $5,880 (hourly rate for Director of Compliance at $588 for 10 hours) + $8,800 (hourly rate for Compliance Attorney at $440 for 20 hours) + $412,500 (costs for external services). The $174,000 estimate in ongoing costs is based on the following calculations: $50,301 ($25,137 (hourly rate for Sr. Programmer at $399 for 63 hours) + $18,522 (hourly rate for Sr. Systems Analyst at $343 for 54 hours) + $2,238 (hourly rate for Compliance Manager at $373 for 6 hours) + $1,764 (hourly rate for Director of Compliance at $588 for 3 hours) + $2,640 (hourly rate for Compliance Attorney at $440 for 6 hours)) + $123,725 (costs for external services). See infra notes 1745, 1747, 1749, and 1750 and accompanying text for relevant details on these cost estimates.