Mar. 21, 2023
March 21, 2023 Vanessa A. Countryman Secretary U.S. Securities and Exchange Commission 100 F Street, N.E. Washington, D.C. 205499–1090 rule-comments@sec.gov Re: Rule Proposal No. 34-96496; File No. S7-32-22 Regulation Best Execution and Rule Proposal No. 34-96494; File No. S7-30-22 Regulation NMS: Minimum Pricing Increments, Access Fees, and Transparency of Better Priced Orders I am submitting this comment letter into the comment files for both proposals because it is directly relevant to each one. The comment letter concerns two topics that span The Proposals–Payment for Order Flow (“Wholesaler PFOF”) and exchange rebates (“Exchange PFOF”). Collectively, these topics are identified as (“PFOF”). While PFOF is primarily seen as an off-exchange inducement to route orders to wholesalers, exchange fee structures and rebates play a similar role in order routing decisions. I believe these issues should be considered in tandem. Put simply, these inducements should not exist and should be banned. The Commission and FINRA have long recognized the problems that these inducements create, and despite the best efforts of regulators, these problems have not been addressed or solved. PFOF Is Incompatible With the Duty of Best Execution The research is clear, both from independent academics and from the Commission, as outlined in both The Proposals and the OCR Proposal. Brokers who accept Wholesaler PFOF receive less price improvement, and the practice is incompatible with the duty of best execution. Brokers who do not accept any kind of PFOF route orders differently and consequently, these brokers also see superior execution quality. This is not simply an academic discussion. These issues have a direct, tangible, and negative impact on household investors. Doug Cifu, CEO of wholesaler Virtu Financial, explained it succinctly during a CNBC appearance in March 2021. He was asked whether “a retail investor that’s not dealing with PFOF at Fidelity [is] ultimately getting a better price than a Robinhood investor?” Cifu responded in the affirmative, asserting: “Overall, through the course of a month, we will provide more price improvement for Fidelity than we do to Robinhood.” This is a clear violation of FINRA’s best execution guidance, which states that “firms may not negotiate the terms of order routing arrangements for those customer orders in a way that reduces the price improvement opportunities that otherwise would be available to those customer orders absent payment for order flow.” In fact, a recent study found that Robinhood does not even provide a statistically significant amount of price improvement relative to exchanges, when controlling for market conditions. This is notable as PFOF is responsible for around 70% of Robinhood’s revenue–money that accrues to Robinhood instead of its customers. However, it should not be surprising that Robinhood fails to provide statistically significant price improvement, given the firm’s history of lying to its customers, failing to supervise, and failing at their duty of best execution. The Case for Banning Rebates The Commission makes an excellent case for banning rebates in the NMS Proposal. The only noted disadvantage of this approach “is that it restricts the ability for the exchanges to innovate with respect to rebates.” However, as the NMS Proposal notes, “[a]ccess fees and their associated rebates tend to increase transaction costs for demanders of liquidity as well as exacerbate a problem of liquidity oversupply for stocks with narrow spreads while doing very little to enhance liquidity in stocks with wide spreads.” The Commission recognizes that rebates fail to improve liquidity in stocks with wide spreads while simultaneously magnifying an oversupply of liquidity for stocks with narrow spreads. Much like Wholesaler PFOF, Exchange PFOF is harmful to market quality. Sincerely, Greg