SEC Proposes Partial Ban on Volume-Based Discounts for Brokers

The Securities and Exchange Commission proposed a new rule Wednesday that would prevent exchanges from offering preferential volume pricing or rebates for large orders from brokers, which the regulator sees as benefitting larger broker/dealers.

An SEC release stated that the proposal would “prohibit national securities exchanges from offering volume-based transaction pricing in connection with the execution of agency or riskless principal.” Riskless principle or agency trades are trades in which an exchange couples buy and sell orders together between different customers in offsetting trades.

Exchanges that offer volume discounts for other trades must maintain anti-evasion and disclosure policies. Among other items, such exchanges must disclose “the number of members that qualify for each transaction pricing tier that the exchange offers,” and these disclosures would be made public on the SEC website.

The proposal would only cover trades executed on behalf of clients. Broker/dealers trading on their accounts would be exempt and could therefore still benefit from volume-based pricing schemes.

SEC Chairman Gary Gensler explained in the announcement that the proposal is intended to increase competition and allow smaller brokerages to better access trading markets. Gensler stated, “We have heard from a number of market participants that volume-based transaction pricing along with these market practices raise concerns about competition in the markets” because “mid-sized and smaller broker-dealers effectively pay higher fees than larger brokers to trade on most exchanges.”

Xiaoxiang Zhu, the director of the SEC’s division of trading and markets, noted at the SEC’s October 18 hearing that the proposal could reduce conflicts of interest by disincentivizing brokers from timing or bundling orders to get bulk pricing when it might not be in the best interest of their client.

SEC Commissioners Hester Peirce and Mark Uyeda both opposed the proposal. They argued that bulk pricing is a part of many markets because it incentivizes more efficient behavior, especially for transactions with fixed costs that are high relative to their unit costs.

 “When wholesalers give volume discounts to retailers, they generally do not do this out of generosity or charity; they do it because moving items in bulk may be more efficient, and the volume discounts reflect that efficiency,” Uyeda said in a statement. “In competitive markets, customers benefit from these volume discounts.”

The American Securities Association stated via email that it has “long been concerned about concentration in the equity markets and ending the discriminatory incentives that disadvantage small and mid-size market participants over larger ones, and this issue is particularly acute with volume-based rebates.”

The industry association wrote that the SEC has an obligation to “put an end to the exchanges’ monopolistic rent-seeking practices that harm America’s working families, savers, and retirees.”

The proposal was sent out for public comment by a vote of 3 to 2, with Peirce and Uyeda voting against it. The comment period will extend 60 days after the proposal is entered into the Federal Register.