Institutions welcome ruling against higher fees

The Securities and Exchange Commission's recent rejection of Nasdaq and New York Stock Exchange fee increases has institutional investors optimistic that the agency is taking a broader — and more critical — look at exchange practices.

On Oct. 16, a unanimous commission ruled against the exchanges in a 2013 challenge brought by the Securities Industry and Financial Markets Association, finding that the NYSE Arca and Nasdaq Stock Market did not provide enough justification to continue charging the rates imposed for depth-of-book data, which is used to gauge market demand. The decision also affects more than 400 similar price-increase requests that were on hold pending the decision, and for which the two exchanges now have to provide justification.

"It's a sea change in terms of the SEC's attitude about all 400 filings," said John Ramsay, chief market policy officer at IEX Group Inc., New York, a lower-cost exchange competitor. He sees the ruling as creating a higher standard for transparency and disclosure, in addition to the fee-specific justification.

Robert J. Jackson Jr., a Democratic SEC commissioner who said he thinks past commissions have tended to rubber-stamp fee increases, is pleased that the SEC's ruling "speaks for itself" in its call for exchanges to justify price increases.

Commission Chairman Jay Clayton made a point of cautioning that the ruling does not mean the fees in question were too high, only that the exchanges so far have not provided sufficient factual and legal support to continue to charge those fees. But he did note that all fees have been the subject of numerous commission and court proceedings over the past decade. Given the technological and other changes in markets, taking a harder line protects both markets and Main Street investors, he said.

Ken Bertsch, executive director of the Council of Institutional Investors in Washington, agreed the ruling's impact is much broader, with the potential to lower fees and change market data access practices. CII members, who represent pension and benefit funds, endowments and foundations with a combined $4 trillion in assets, have long worried that market competition is distorted by the exchanges' competing obligations as a utility providing access while also profiting from providing market data, and from the controversial practice of offering rebates to certain brokers, he said.

Exchange critics are reading even more into the fact that Republican commissioners Hester Peirce and Elad Roisman concurred, in part because of what they said was the exchanges'"oversimplified analysis" that prevented the SEC from evaluating how competitively the exchanges handle distinct customer groups' needs.

As the exchanges now prepare to undertake "this momentous task," the SEC gave little guidance, the two commissioners said, but they see at least three paths forward for the exchanges.

One is conducting an analysis to show how they segment the market for each product or service based on the types of customers served and customers' value of those products or services, along with looking at available alternatives.

The exchanges could also conduct a more complex assessment of their platforms to ensure that customers are not paying disproportionately high fees. A third option, having exchanges justify their fees based on the costs to develop and offer products or services, "would involve the most intervention and monitoring on behalf of the commission, which would essentially be required to step into the role of rate-setter," Ms. Peirce and Mr. Roisman said.

In September, Nasdaq signaled its interest in working with investors by proposing some basic reforms to increase data transparency: giving investors and their money managers a bigger role in the governance of the stock market data feeds and infrastructure and making sure revenue is distributed more evenly.

After the ruling, Nasdaq officials expressed disappointment, saying it ignored "the strength of our evidence, convincing record of facts and our track record in the courts."

The exchanges wasted little time challenging the SEC's decision in the U.S. Court of Appeals for the District of Columbia, filing a petition for review on Oct. 23.

In the meantime, exchange officials continue to defend their fee increases, which they say have been linked to upgrades.

These issues and more came up at the SEC's Roundtable on Market Data and Market Access on Oct. 25-26. Ahead of that meeting, officials with the Equity Markets Association, founded by NYSE's parent company Intercontinental Exchange Inc. and Nasdaq, sent an open letter to the SEC and stakeholders, calling the event "timely and welcome."

Exchange market data revenues "are modest, stable and a small cost for the industry overall," EMA co-Chairmen Mike Ferguson and Mike Williams wrote in their letter, even while the processes to aggregate and normalize them get more sophisticated, and exchanges continually invest in improving core market data infrastructure.

Demand for sophisticated market data has fueled a market for proprietary data products, but it benefits other investors by increasing liquidity and decreasing trading costs, they said.

Exchanges are feeling under attack from market participants. The first day of the SEC roundtable got off to a rocky start, with Chris Concannon, president and chief operating officer of Cboe Global Markets Inc., saying that because of the "unprecedented and unwarranted attack" on exchanges, "we now have less incentive to compromise."

To market analyst Chris Kuiper of CFRA Research in Rockville, Md., the immediate impact to Nasdaq is limited: The SEC did not say the fees in question are too high, he said, but "it certainly throws up a roadblock, the first one." But the longer-term stakes for Nasdaq, which gets more revenue from analytics and data feeds than trading, are high, he added.