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Conflicts of Interest, Investor Loss of Confidence, and High Speed Trading in U.S S. Hrg. 113–413 CONFLICTS OF INTEREST, INVESTOR LOSS OF CONFIDENCE, AND HIGH SPEED TRADING IN U.S. STOCK MARKETS HEARING BEFORE THE PERMANENT SUBCOMMITTEE ON INVESTIGATIONS OF THE COMMITTEE ON HOMELAND SECURITY AND GOVERNMENTAL AFFAIRS UNITED STATES SENATE ONE HUNDRED THIRTEENTH CONGRESS SECOND SESSION JUNE 17, 2014 Available via the World Wide Web: http://www.fdsys.gov Printed for the use of the Committee on Homeland Security and Governmental Affairs ( U.S. GOVERNMENT PRINTING OFFICE 89–752 PDF WASHINGTON : 2014 For sale by the Superintendent of Documents, U.S. Government Printing Office Internet: bookstore.gpo.gov Phone: toll free (866) 512–1800; DC area (202) 512–1800 Fax: (202) 512–2104 Mail: Stop IDCC, Washington, DC 20402–0001 COMMITTEE ON HOMELAND SECURITY AND GOVERNMENTAL AFFAIRS THOMAS R. CARPER, Delaware Chairman CARL LEVIN, Michigan TOM COBURN, Oklahoma MARK L. PRYOR, Arkansas JOHN MCCAIN, Arizona MARY L. LANDRIEU, Louisiana RON JOHNSON, Wisconsin CLAIRE MCCASKILL, Missouri ROB PORTMAN, Ohio JON TESTER, Montana RAND PAUL, Kentucky MARK BEGICH, Alaska MICHAEL B. ENZI, Wyoming TAMMY BALDWIN, Wisconsin KELLY AYOTTE, New Hampshire HEIDI HEITKAMP, North Dakota RICHARD J. KESSLER, Staff Director KEITH B. ASHDOWN, Minority Staff Director LAURA W. KILBRIDE, Chief Clerk LAUREN M. CORCORAN, Hearing Clerk PERMANENT SUBCOMMITTEE ON INVESTIGATIONS CARL LEVIN, Michigan Chairman MARK L. PRYOR, Arkansas JOHN MCCAIN, Arizona MARY L. LANDRIEU, Louisiana RON JOHNSON, Wisconsin CLAIRE MCCASKILL, Missouri ROB PORTMAN, Ohio JON TESTER, Montana RAND PAUL, Kentucky TAMMY BALDWIN, Wisconsin KELLY AYOTTE, New Hampshire HEIDI HEITKAMP, North Dakota ELISE J. BEAN, Staff Director and Chief Counsel DANIEL J. GOSHORN, Counsel HENRY J. KERNER, Minority Staff Director and Chief Counsel JACK THORLIN, Counsel to the Minority BRAD M. PATOUT, Senior Advisor to the Minority SCOTT WITTMANN, Research Assistant to the Minority MARY D. ROBERTSON, Chief Clerk (II) C O N T E N T S Opening statements: Page Senator Levin .................................................................................................... 1 Senator McCain ................................................................................................ 4 Senator Johnson ............................................................................................... 6 Prepared statements: Senator Levin .................................................................................................... 55 Senator McCain ................................................................................................ 59 WITNESSES TUESDAY, JUNE 17, 2014 Robert H. Battalio, Professor of Finance, Mendoza College of Business, Uni- versity of Notre Dame, Notre Dame, Indiana .................................................... 7 Bradley Katsuyama, President and Chief Executive Officer, IEX Group, Inc., New York, New York ........................................................................................... 9 Thomas W. Farley, President, New York Stock Exchange, New York, New York ....................................................................................................................... 31 Joseph P. Ratterman, Chief Executive Officer, BATS Global Markets, Inc., Lenexa, Kansas .................................................................................................... 33 Joseph P. Brennan, Principal and Head of Global Equity Index Group, The Vanguard Group, Inc., Malvern, Pennsylvania ................................................. 35 Steven Quick, Senior Vice President, Trader Group, TD Ameritrade, Omaha, Nebraska ............................................................................................................... 36 ALPHABETICAL LIST OF WITNESSES Battalio, Robert H.: Testimony .......................................................................................................... 7 Prepared statement .......................................................................................... 61 Brennan, Joseph P.: Testimony .......................................................................................................... 35 Prepared statement .......................................................................................... 87 Farley, Thomas W.: Testimony .......................................................................................................... 31 Prepared statement .......................................................................................... 77 Katsuyama, Bradley: Testimony .......................................................................................................... 9 Prepared statement .......................................................................................... 69 Quick, Steven: Testimony .......................................................................................................... 36 Prepared statement .......................................................................................... 93 Ratterman, Joseph P.: Testimony .......................................................................................................... 33 Prepared statement .......................................................................................... 79 (III) IV Page APPENDIX EXHIBIT LIST 1.a. Maker-Taker Conflict, chart prepared by the Permanent Subcommittee on Investigations ............................................................................................ 102 b. Payment for Order Flow Conflict, chart prepared by the Permanent Subcommittee on Investigations .................................................................. 103 c. Conflict for Brokers Trading for Institutional Investors, chart prepared by the Permanent Subcommittee on Investigations ................................... 104 d. Conflicts for Retail Brokers Trading for Retail Investors, chart prepared by the Permanent Subcommittee on Investigations ................................... 105 2. Letter from the Securities and Exchange Commission to the Senate Perma- nent Subcommittee on Investigations, dated June 18, 2014, regarding the impact of high-frequency trading on the efficiency, stability, and integrity of the U.S. capital markets ................................................................................ 106 3. Letter from the Securities and Exchange Commission to the Senate Perma- nent Subcommittee on Investigations, dated August 5, 2014, regarding conflicts of interest in the U.S. equities markets, including ‘‘maker-taker’’ fee schedules and payment for order flow by wholesale brokers to retail. .... 123 4. Letter from TD Ameritrade, dated June 19, 2014, clarifying June 17, 2014 testimony of Steven Quick. ....................................................................... 125 5. Response of Steven Quick, TD Ameritrade, Inc., to supplemental questions for the record of Senator Carl Levin ................................................................. 126 6. Response of Joe Ratterman, BATS Global Markets, Inc., to supplemental questions for the record of Senator Carl Levin ................................................ 127 7. Response of Thomas Farley, NYSE Group, to supplemental questions for the record of Senator Carl Levin ....................................................................... 128 8. Response of Joseph Brennan, The Vanguard Group, Inc., to supplemental questions for the record of Senator Carl Levin ................................................ 129 CONFLICTS OF INTEREST, INVESTOR LOSS OF CONFIDENCE, AND HIGH SPEED TRADING IN U.S. STOCK MARKETS TUESDAY, JUNE 17, 2014 U.S. SENATE, PERMANENT SUBCOMMITTEE ON INVESTIGATIONS, OF THE COMMITTEE ON HOMELAND SECURITY AND GOVERNMENTAL AFFAIRS, Washington, DC. The subcommittee met, pursuant to notice, at 9:35 a.m., in room SH–216, Hart Senate Office Building, Hon. Carl Levin, Chairman of the Subcommittee, presiding. Present: Senators Levin, McCain, and Johnson. Staff present: Elise J. Bean, Staff Director and Chief Counsel; Mary D. Robertson, Chief Clerk; Daniel J. Goshorn, Senior Coun- sel; Joseph Bryan, Robert Heckert, and Timothy Everett (Sen. Levin); Adam Henderson, Professional Staff Member; Henry J. Kerner, Staff Director and Chief Counsel to the Minority; Jack Thorlin, Counsel to the Minority; Brad M. Patout, Senior Advisor to the Minority; Scott Wittmann, Research Assistant to the Minor- ity; John Lin, Law Clerk to the Minority; Joel Churches, Detailee (IRS); Admad Sarsour, Detailee (FDIC); Jacob Rogers, Law Clerk; Rebecca Pskowski, Law Clerk; Michael Avi-Yonah, Intern; Amy Dreisiger, Law Clerk; Owen Dunn, Law Clerk; Josh Katz and Rich- ard Drucker (Sen. Levin); Ritika Rodrigues and Meris Petek (Sen. Johnson); and Myles Matteson (Sen. Ayotte). OPENING STATEMENT OF SENATOR LEVIN Senator LEVIN. Good morning, everybody. Most Americans’ image of the U.S. stock market is shaped by a single room: the trading floor of the New York Stock Exchange, where traders await a cere- monial bell to kick off the day’s activity, then trade shares worth millions on scraps of paper. In reality, most shares are traded not on a floor in Manhattan, but in racks of computer servers in New Jersey. Trades happen not at the speed of a human scribbling on paper, but in the milli- seconds it takes for an order to travel through fiberoptic cables. And, increasingly, the money made on stock markets comes not from thoroughly assessing companies for their investment poten- tial, but from exploiting infinitesimal advantages at unfathomable speeds,
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