The new amendments apply to Rule 606 of Regulation NMS such that a broker-dealer, upon the request of a customer who places a “not held” order (an order in which the customer gives the brokerage firm price and time discretion), must now supply that customer with a standardized set of individualized disclosures concerning the firm’s handling of the customer’s orders. Among other things, these new disclosures will provide the customer with information about the average rebates and fees the broker received from and paid to trading venues. They are also meant to help investors better understand how the broker-dealer routes and handles their orders and better assess the impact of routing decisions on execution quality. Along with these changes, the SEC adopted two exceptions designed to minimize the burdens of implementation of the new requirement on the broker-dealer industry, particularly small broker-dealers. In addition, the rulemaking includes enhancements to the quarterly public reports that broker-dealers are already required to publish so that these reports must now describe any terms of payment for order flow arrangements and profit-sharing relationships.

The amendments to Regulation NMS are as follows:

Customer-Specific Report on Not Held Order Handling

New rule 606(b)(3) will require broker-dealers to provide a customer upon the customer’s request a report on the broker-dealer’s handling of the customer’s NMS stock orders that were submitted on a not held basis for the prior six months. This report will be divided into two sections: the customer’s directed orders and non-directed orders. The report should provide a detailed, standardized, baseline set of disclosures that will aid customers in better understanding how their not held orders are routed, handled, and how those decisions impact the quality of the transactions.

The report will include:

• Number of shares sent to the broker-dealer;
• Number of shares executed by the broker-dealer as principal for its own account; and 
• Number of not held orders exposed by the broker-dealer through actionable indications of interest and the venue(s) to which they were exposed if the identity of such venue(s) can be anonymized should the venue(s) be customer(s) of the broker-dealer.

• Information on order routing:
  • Total shares routed;
  • Total shares routed marked immediate or cancel;
  • Total shares routed that were further routable; and 
  • Average order size routed. 

• Information on order execution:
  • Total shares executed;
  • Fill rate;
  • Average fill size;
  • Average net execution fee or rebate;
  • Total number of shares executed at the midpoint;
  • Percentage of shares executed at the midpoint;
  • Total number of shares executed that were priced on the side of the spread more favorable to the not held order;
  • Percentage of total shares executed that were priced at the side of the spread more favorable to the not held order;
  • Total number of shares executed that were priced on the side of the spread less favorable to the not held order; and 
  • Percentage of total shares executed that were priced on the side of the spread less favorable to the not held order.

• Information on orders that provided liquidity:
  • Total number of shares executed of orders providing liquidity;
  • Percentage of shares executed of orders providing liquidity;
  • Average time between order entry and execution or cancellation for orders providing liquidity (in milliseconds); and 
  • Average net execution rebate or fee for shares of orders providing liquidity.

• Information on orders that removed liquidity:
  • Total number of shares executed of orders removing liquidity;
  • Percentage of shares executed of orders removing liquidity; and 
  • Average net execution fee or rebate for shares of orders removing liquidity.

Two de minimis exceptions apply to the obligatory report: 1) a broker-dealer’s not held stock orders constituting less than 5% of the total shares of NMS stock orders that the broker-dealer receives from its customers in the past six months, or 2) the customer trades through the broker-dealer on average for the prior six months being less than $1,000,000 of notional value of not held orders in NMS stock. In these cases, the broker-dealer is not required to provide the report. Should the broker-dealer exceed the firm-level de minimis threshold, there will be a three-month grace period before the broker-dealer becomes subject to new Rule 606(b)(3).

The SEC is also amending Rule 606(b)(1) customer-specific reports to apply to orders in NMS stock that are submitted on a held basis. This rule will also now apply to orders in NMS stock that are submitted on a not held basis and for which the broker-dealer is not required to provide the customer a report under new Rule 606(b)(3).

Held Order Disclosures

The SEC is also enhancing Rule 606 existing requirements that broker-dealers provide public quarterly reports on their routing of certain orders. The rule now stipulates such reports should cover NMS stock orders of any size that are submitted on a held basis and continue to cover any order for an NMS security that is an option contract with a market value less than $50,000 regardless of whether or not the order is not held. Broker-dealers will now also be required to:

• Report routing information separately for marketable limit orders and non-marketable limit orders;
• Report routing information by calendar month instead of quarterly and no longer categorize NMS stocks by listing market;  
• Report routing information for NMS stock orders separately for securities included in the S&P 500 Index as of the first day of the quarter and for other NMS stocks;
• Include the following information for the ten venues to which the largest number of total non-directed orders were routed for execution and for any venue to which five percent or more of non-directed orders were routed for execution: 
  • The net aggregate amount of any payment for order flow received, payment from any profit-sharing relationship received, transaction fees paid, and transaction rebates received (both as a total dollar amount and per share) for: non-directed market orders, non-directed marketable limit orders, non-directed non-marketable limit orders, and other non-directed orders.
• Include a description of the terms of any payment for order flow and any profit-sharing arrangements that may influence a broker-dealer’s order routing decision, including, among other things: 
  • Incentives for equaling or exceeding an agreed-upon order flow volume threshold;
  • Disincentives for failing to meet an agreed-upon minimum order flow threshold;
  • Volume-based tiered payment schedules; and
  • Agreements regarding the minimum amount of order flow that the broker-dealer would send to a venue.

Report Format and Retention

The above mentioned reports required under amended Rule 606 must be made available using an XML schema and a PDF renderer published on the SEC’s website. The public quarterly order routing report required by Rule 606(a) and the public order execution report required by Rule 605 of Regulation NMS must be posted on a website that is freely accessible to the public and remain accessible for a period of three years from its initial posting date.

These amendments to Regulation NMS will become effective 60 days from the date of publication in the Federal Register. The compliance date will be 180 days from the publication date.

Sources:

SEC Adopts Rules That Increase Information Brokers Must Provide to Investors on Order Handling (www.sec.gov)
Disclosure of Order Handling Information (www.sec.gov)