SIFMA and its asset management arm have published an open letter expressing concerns about the SEC’s proposal to redefine what constitutes an exchange and expand Regulation ATS, stating that it is not appropriately tailored to existing systems.
The comments have been made in connection to the SEC’s proposal to amend Rule 3b-16, which defines exchanges, and Regulation ATS, the regulatory regime that governs alternative trading systems. The SEC has reopened the comment period for this proposal which was initially published in January 2022.
As part of its new definition, the SEC has suggested the expansion of the rule to include systems that provide non-firm trading interest and protocols to bridge buys and sells for trading any type of security. These communication protocol systems would have to register as exchanges or as broker-dealers, while also complying with Regulation ATS.
“We are concerned that, by attempting to bring decentralised finance (DeFi) systems within the scope of Rule 3b-16 and Regulation ATS, the SEC may also subject many non-DeFi systems to regulation as an exchange without a clear rationale,” said Rob Toomey, SIFMA head of capital markets and managing director.
“If DeFi systems are the primary focus of the SEC’s efforts, it would be more appropriate to propose separate rules tailored to the specific functioning, risk profile, and complexities of DeFi systems specifically – rather than ballooning existing rules in a way that would also improperly scope in a multitude of other broker-dealer systems that the SEC says it does not want to capture.”
SIFMA has said the proposal lacks coherence on what can be classified as an exchange and a clear rationale behind the expansion of the rule.
It has also highlighted that an incremental approach toward the expansion of Rule 3b-16 and Regulation ATS should be taken to ensure any amendments are appropriately calibrated to capture systems that should be subject to the framework.
The SEC has not addressed various questions from commenters and the proposed scope of Rule 3b-16 remains vague and overbroad, SIFMA has argued, and an extended compliance period would be necessary for market participants to comply with any adopted proposal.
Meanwhile, the firm’s asset management arm has said that non-discretionary must be clearly defined as key to the definition of an exchange, so that exchange treatment is not applied if users have discretion to select potential counterparties and the preferred order or response.
SIFMA Asset Management Group (AMG) also states that the proposed amendments are insufficient to narrow the scope of the systems intended for exchange treatment.
Elsewhere, SIFMA AMG has also said that OEMS systems and ETF portals should be carved out from treatment as an exchange given they do not have key components of an exchange since they do not allow separate users to interact and do not directly connect with various brokers to confirm the non-discretionary execution of orders.
SIFMA AMG warns that by removing OEMS systems from the scope of the proposal, this will eliminate the risk of developers abandoning innovations which benefit investors due to exchange treatment.
“The SEC proposal makes a number of changes to an existing regulation that has functioned very well,” said Bill Thum, managing director and associate general counsel, SIFMA AMG.
“The broad drafting of the proposal, even with the more recent clarifications, suggests a dramatic expansion of regulatory scope and obligations – in ways unrelated to a data-driven identification of problems requiring attention – and the risk of such an expansion of scope and obligations presents troubling consequences.”