Regulatory Notice 26-15 — Modernizing FINRA’s Best Execution Guidance

Summary

SIFMA ¹ provided comments to FINRA on its Regulatory Notice 26-15, in which FINRA requests comment on modernizing its best execution guidance under FINRA Rule 5310. ²

Excerpt

I. Introduction

FINRA Rule 5310 and its predecessors have applied to FINRA members since 1968, and the duty of best execution long predates Regulation NMS. For the past twenty years, however, Rule 611 of Regulation NMS has fortified the application of that duty by supplying a price-based backstop for NMS stocks. Because trading centers could not trade through a protected quotation, and because Rule 610 of Regulation NMS obliged venues to make those quotations accessible, the market a member could actually reach and the market reflected in the national best bid and offer (“NBBO”) were largely congruent. Rescission of Rule 611 would end that congruence. ³ Best execution would then become the guiding principle on order handling, routing, and execution in NMS stocks, and FINRA Rule 5310 would be applied to displayed exchange quotations without a trade-through backstop for the first time since 2005, in a national market system with materially more venues (which may continue to increase particularly as tokenized venues emerge in light of the Commission’s Innovation Exemption and further regulatory developments in the digital assets space), ⁴ materially more displayed quotations, and materially greater speed. ⁵

A critical practical consequence of the repeal of Rules 611 and 610(e), therefore, is that the content of FINRA’s best execution guidance will largely determine whether the Commission’s proposal achieves many of its stated objectives of reducing cost, complexity, and exchange fragmentation. If FINRA and the Commission administer best execution as though every displayed exchange quotation remains de facto protected, members will be forced to retain the same connectivity, routing, testing, post-trade reviews, and exception-review burdens they bear today, and the freedom to disconnect that the Rule 611 Proposal contemplates will exist only on paper. Equally important, FINRA’s guidance should not frustrate the Commission’s objectives by preserving a supervisory presumption that a member must necessarily access the best displayed quotation in every circumstance. The rescission of Rule 611 should not result in best execution becoming a substitute for order protection. Accordingly, members need affirmative guidance confirming that an execution that does not access a better-priced displayed quotation is not, by itself, necessarily inconsistent with FINRA Rule 5310.

Members’ concern with the clarity and scope of FINRA’s guidance is heightened by the way in which best execution has been administered to date. Members’ experiences are that the operative standard by which FINRA Rule 5310 is applied is frequently developed in examinations and enforcement inquiries rather than in published guidance, and that expectations for firms’ compliance vary among examiners and over time. SIFMA believes greater clarity regarding FINRA’s expectations and more consistent enforcement of such expectations is necessary so that members may better design and document reasonable processes against a knowable and uniform standard.