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The Role of Regulation in Shaping Equity Market Structure and Electronic Trading

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The Role of Regulation in Shaping Equity Market Structure and Electronic Trading S. HRG. 113–478 THE ROLE OF REGULATION IN SHAPING EQUITY MARKET STRUCTURE AND ELECTRONIC TRADING HEARING BEFORE THE COMMITTEE ON BANKING, HOUSING, AND URBAN AFFAIRS UNITED STATES SENATE ONE HUNDRED THIRTEENTH CONGRESS SECOND SESSION ON EXAMINING THE INFLUENCE OF REGULATION ON THE GROWTH OF MARKET STRUCTURE, THE SYSTEMS AND OPERATION OF MARKET PARTICIPANTS AND THE DEVELOPMENT OF BUSINESS PRACTICES RE- LATED TO HIGH-FREQUENCY TRADING, ELECTRONIC MARKETS AND AUTOMATED TRADING JULY 8, 2014 Printed for the use of the Committee on Banking, Housing, and Urban Affairs ( Available at: http://www.fdsys.gov/ U.S. GOVERNMENT PUBLISHING OFFICE 91–300 PDF WASHINGTON : 2015 For sale by the Superintendent of Documents, U.S. Government Publishing 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 VerDate 0ct 09 2002 11:05 Mar 18, 2015 Jkt 000000 PO 00000 Frm 00001 Fmt 5011 Sfmt 5011 S:\DOCS\91300.TXT SHERYL BANKI-41578DSA with DISTILLER COMMITTEE ON BANKING, HOUSING, AND URBAN AFFAIRS TIM JOHNSON, South Dakota, Chairman JACK REED, Rhode Island MIKE CRAPO, Idaho CHARLES E. SCHUMER, New York RICHARD C. SHELBY, Alabama ROBERT MENENDEZ, New Jersey BOB CORKER, Tennessee SHERROD BROWN, Ohio DAVID VITTER, Louisiana JON TESTER, Montana MIKE JOHANNS, Nebraska MARK R. WARNER, Virginia PATRICK J. TOOMEY, Pennsylvania JEFF MERKLEY, Oregon MARK KIRK, Illinois KAY HAGAN, North Carolina JERRY MORAN, Kansas JOE MANCHIN III, West Virginia TOM COBURN, Oklahoma ELIZABETH WARREN, Massachusetts DEAN HELLER, Nevada HEIDI HEITKAMP, North Dakota CHARLES YI, Staff Director GREGG RICHARD, Republican Staff Director LAURA SWANSON, Deputy Staff Director GLEN SEARS, Deputy Policy Director BRETT HEWITT, Policy Analyst and Legislative Assistant GREG DEAN, Republican Chief Counsel JELENA MCWILLIAMS, Republican Senior Counsel DAWN RATLIFF, Chief Clerk TAYLOR REED, Hearing Clerk SHELVIN SIMMONS, IT Director JIM CROWELL, Editor (II) VerDate 0ct 09 2002 11:05 Mar 18, 2015 Jkt 000000 PO 00000 Frm 00002 Fmt 0486 Sfmt 0486 S:\DOCS\91300.TXT SHERYL BANKI-41578DSA with DISTILLER CONTENTS TUESDAY, JULY 8, 2014 Page Opening statement of Chairman Johnson ............................................................. 1 Opening statements, comments, or prepared statements of: Senator Crapo ................................................................................................... 2 Senator Heller ................................................................................................... 3 Senator Reed Prepared statement ................................................................................... 41 WITNESSES Jeffrey Sprecher, Chairman and CEO, Intercontinental Exchange, Inc. ............ 4 Prepared statement .......................................................................................... 41 Kenneth C. Griffin, Founder and Chief Executive Officer, Citadel LLC ............ 5 Prepared statement .......................................................................................... 43 Kevin Cronin, Global Head of Trading, Invesco, Ltd. .......................................... 6 Prepared statement .......................................................................................... 48 James J. Angel, Ph.D., CFA, Associate Professor of Finance, Georgetown University McDonough School of Business ........................................................ 8 Prepared statement .......................................................................................... 51 Tom Wittman, Executive Vice President and Global Head of Equities, NASDAQ OMX Group, Inc. ................................................................................. 23 Prepared statement .......................................................................................... 60 Joe Ratterman, Chief Executive Officer, BATS Global Markets, Inc. ................. 24 Prepared statement .......................................................................................... 62 Response to written question of: Senator Brown ........................................................................................... 123 David Lauer, President and Managing Partner, KOR Group LLC ..................... 26 Prepared statement .......................................................................................... 69 (III) VerDate 0ct 09 2002 11:05 Mar 18, 2015 Jkt 000000 PO 00000 Frm 00003 Fmt 5904 Sfmt 5904 S:\DOCS\91300.TXT SHERYL BANKI-41578DSA with DISTILLER VerDate 0ct 09 2002 11:05 Mar 18, 2015 Jkt 000000 PO 00000 Frm 00004 Fmt 5904 Sfmt 5904 S:\DOCS\91300.TXT SHERYL BANKI-41578DSA with DISTILLER THE ROLE OF REGULATION IN SHAPING EQ- UITY MARKET STRUCTURE AND ELEC- TRONIC TRADING TUESDAY, JULY 8, 2014 U.S. SENATE, COMMITTEE ON BANKING, HOUSING, AND URBAN AFFAIRS, Washington, DC. The Committee met at 10:04 a.m., in room SD–538, Dirksen Sen- ate Office Building, Hon. Tim Johnson, Chairman of the Com- mittee, presiding. OPENING STATEMENT OF CHAIRMAN TIM JOHNSON Chairman JOHNSON. I call this hearing to order. Good morning. Today the Committee will examine equity market structure. It is a complicated topic, and a whole new vocabulary is needed to un- derstand market structure and electronic trading. Words like ‘‘dark pool,’’ ‘‘high-frequency trading,’’ and ‘‘data feed’’ are pieces to under- standing the market puzzle. Even experts disagree on the details of how the markets work and what issues and problems exist. In less than a decade, the stock market has moved from being dominated by two exchanges to an extremely competitive but frag- mented marketplace with 11 stock exchanges and over 40 private alternative trading centers, increasing complexity and instability in the system. However, many rules and market conventions date back to the days of less complex markets. The regulatory environment has to recognize the new electronic trading landscape, one where institutions, individuals, market makers, and traders interact at high-speed over dozens of con- nected markets. The benefits of lower costs and more efficient trad- ing are important, but fairness and market resilience are also vital and should continue to be examined. Additionally, while we have seen a sizable stock market rally since the Flash Crash 4 years ago, we also hear reports of declining stock market investment and loss of faith by individual investors. Many reasons have been suggested, but doubts about market integ- rity and market stability are heard too often. Although many market participants call for reform, they often disagree as to where that reform should occur. Any path to reform must be built on good data and the goals of preserving a competi- tive market and the interests of long-term investors, while pro- tecting the market from future disruptions. I am encouraged to see the SEC move forward with a comprehensive review of market structure and an initiative for small company stocks that recog- (1) VerDate 0ct 09 2002 11:05 Mar 18, 2015 Jkt 000000 PO 00000 Frm 00005 Fmt 6633 Sfmt 6633 S:\DOCS\91300.TXT SHERYL BANKI-41578DSA with DISTILLER 2 nizes one size does not fit all. But pilots and reviews are just a first step. I want to see urgent and thorough attention given to the mar- ket structure review so that any corrective measures that would help restore trust in the fairness of our markets are taken as quickly as possible. I look forward to the witnesses’ testimony today as the Com- mittee examines whether today’s market structure has the right kind and amount of regulation to maintain a stable, competitive, and efficient marketplace and what additional measures would be useful. With that, I turn to Ranking Member Crapo for his opening statement. STATEMENT OF SENATOR MIKE CRAPO Senator CRAPO. Thank you, Mr. Chairman. The U.S. capital markets are vital to the continued growth of our economy. I have repeatedly stressed the need for the U.S. financial system and markets to remain the preferred destination for inves- tors throughout the world. This hearing will examine the role of regulation in shaping today’s markets as well as whether these markets are as resilient and stable as they should be, given the ris- ing different types of technology and automated trading. Recent news about the practices of certain market participants and automated trading has raised concerns as to whether the stock market is rigged against small investors. SEC Chair White recently stated her view that the market is not rigged, but there is a need to review the current equity market structure, and such a review should be disciplined and conducted in a data-driven manner. While much has been made recently of the potential dangers of automated trading, what is often forgotten is that technology and innovation has benefited investors by leading to tighter spreads, lower costs, and more efficient markets. Today an individual retail investor has an easier time partici- pating in our stock market than at any time in the history of these markets. With fees under $10 a trade, the spreads between bid and ask prices for most stocks as narrow as they have ever been, and with trading being done in a matter of sub-seconds rather than minutes, retail investors have been able to enjoy greater involve- ment in and access to the markets. To continue this level of investor participation, we must ensure that the markets have the resiliency and the capabilities to handle the evolving speed and complexity of today’s trading world. I am encouraged by speeches
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