June 5, 2023

Ms. Vanessa Countryman
Secretary
U.S. Securities and Exchange Commission
100 F Street, NE
Washington, DC 20549

Re: Joint Industry Plan; Notice of Filing of Amendment to the National Market System Plan Governing the Consolidated Audit Trail; File No. 4-698

Dear Ms. Countryman:

In discussions during the week of May 30, 2023, the U.S. Securities and Exchange Commission (the “Commission”) invited the Securities Industry and Financial Markets Association (“SIFMA”)1 to submit a comment letter to the Commission in further response to the proposal by the self-regulatory organizations (“SROs”) to establish a funding model (“Funding Proposal”) for the consolidated audit trail (“CAT”).2 SIFMA thus submits this letter.

For the reasons set forth in our prior comment letters,3 including those regarding the SROs’ immediately prior Executed Share Model,4 the Commission should disapprove the Funding Proposal because the SROs, as CAT NMS Plan Participants (“Participants”), have not demonstrated that the Funding Proposal meets the required standards under the Securities Exchange Act of 1934 (“Exchange Act”). In particular, the Participants have not demonstrated that the proposal: (1) provides “for the equitable allocation of reasonable dues, fees, and other charges,” (2) is “not designed to permit unfair discrimination between customers, issuers, brokers or dealers,” and (3) does not “impose any burden on competition not necessary or
appropriate in furtherance of the purposes” of the Exchange Act.5 The Proposal, moreover, strays far beyond the CAT plan the Commission contemplated in 2012 and 2016 and raises significant constitutional issues.

While we would typically let our prior comments speak for themselves, the CAT Operating Committee in a recent letter (“CAT Response Letter”) has misrepresented and disregarded the positions we took in those comments,6 particularly with respect to the Proposal’s central definition of an “executing broker” that we address in more detail below.7 Unfortunately, in their haste to get the Commission to approve the Funding Proposal, and the Commission’s similar zeal to do so as evidenced by the recent announcement of an open meeting on June 7, 2023 to vote on the Proposal,8 we note that the CAT Operating Committee has not meaningfully addressed many points in our comment letters (nor the questions raised by the Commission in its Order Instituting Proceedings for the immediately prior funding proposal).9 These include our significant concerns about the allocation of CAT costs between Participants and Industry Members, the lack of any type of cost review or cost control mechanism,10 and the inability of firms defined as “executing brokers” to transfer fees to those who may be more appropriate to bear certain historical CAT costs in the first place. The Funding Proposal continues to be replete with conclusory statements regarding its satisfaction of core Exchange Act requirements that remain unsupported by the record.11 The Commission has also failed to address the significant data security concerns associated with mandating this massive surveillance database, even though it has previously acknowledged the legitimacy of these concerns,12 and even though the Commission’s ability to secure its systems continues to be drawn into question.13

We express the industry’s significant surprise, that after the Commission rejected or orchestrated the withdrawal of, at least four prior attempts by the CAT Operating Committee to implement a CAT funding model that allocates the vast majority of CAT costs to industry firms, it now appears as though the Commission is rushing forward to approve the latest proposal without taking advantage of the allotted time under the Exchange Act for careful consideration. Given the magnitude of the costs that are proposed to be passed-on to the industry, the potential grave impacts on market efficiency, competition, and capital formation, and the significant concerns expressed in the administrative record, we are extremely surprised that the Commission is not, at a minimum, instituting proceedings to consider this filing more thoroughly. As noted above, the latest Funding Proposal fails to adequately respond to concerns raised in the administrative record and key questions raised by the Commission in its Order Instituting Proceedings for the prior proposed funding model (which remain equally relevant).

We are also troubled that the Commission appears to be prematurely moving forward with this Proposal at the same time it is considering a massive re-write of the rules governing the structure of the equity and options markets (many of which may impact liquidity and competition in these markets),14 as well as numerous other proposals as part of an aggressive regulatory agenda that will collectively impose significant costs on industry members.15 The unequitable distribution of CAT costs contemplated by the Funding Proposal will exacerbate these problems, harming the functioning of U.S. securities markets. The Commission cannot determine whether the proposed distribution of CAT costs will be equitable without assessing the distribution of costs and benefits under the Commission’s other pending proposals, many of which appear slanted in favor of the SROs.

Key unanswered questions in the record include how it could be consistent with the Exchange Act to allocate approximately 80% of total CAT costs to the industry (taking into account the proposed allocation to FINRA, which is expected to be passed on to industry firms), when the industry has absolutely no role in the governance, oversight, or design of CAT and obtains no tangible benefits from its operation (indeed, the industry has not even been permitted to obtain or review CAT data used in the context of Commission regulatory initiatives).16 Instead of benefiting the industry, the CAT system is being used to surveil and fine industry members, which generates additional revenue for the Commission (and the SROs) but is not used to defray the costs of operating CAT. Therefore, CAT can accurately be characterized as a revenue generating Commission system that the industry is being obligated to fund.

The record details that current CAT costs include approximately $350 million in historical costs that are proposed to be allocated to a small group of executing broker firms based on current market volumes. The CAT Operating Committee has failed to explain why allocating these significant costs to this group of firms is consistent with the Exchange Act (or how it may affect market liquidity and competition), taking into account that the allocation is being made based on current market share (and therefore bears no relation to the firms and/or activities that may have contributed to these historical costs) and that there appears to be little ability for these firms to pass-on historical costs to anyone else.

In addition, the record details that current CAT costs include annual operating costs of approximately $240 million, which represents more than 10% of the Commission’s 2023 budget request to Congress.17 We note that the CAT annual budget increased over 30% just in the last year, and the industry has no role in the governance, oversight, or approval of this budget. Approving a proposal that would allocate 80% of these costs to the industry in perpetuity, with no mechanism to control or limit the budget, directly threatens efficiency, competition, and capital formation in U.S. securities markets. The CAT Operating Committee has not explained why such an approach is consistent with the Exchange Act, including the Commission’s guidance on SRO filings relating to fees,18 in particular when the Commission has previously acknowledged that “the SROs have potential conflicts of interest with respect to allocating costs related to the CAT Plan because both SRO participants and Industry Members are responsible for paying fees related to the CAT Plan; however, the CAT Operating Committee, whose voting participants are all SROs, decides how these fees should be split.”19

Finally, we also briefly discuss below another issue regarding the Funding Proposal’s approach of assessing CAT Fees through fee filings submitted by each exchange under Rule 19b-4. As a preliminary matter, we believe that this proposed process is inconsistent with Rule 608 of Regulation NMS, which now requires NMS plan fee changes to go through a notice and comment process and to be approved by the Commission prior to becoming effective. This inconsistency calls into question the entire process for establishing and assessing CAT Fees under the CAT NMS Plan and Funding Proposal.

We recognize the frustration the SROs are experiencing in connection with their failure to obtain approval for a CAT funding model. But that is due in large part to their lack of engagement and collaboration with the industry on establishing a viable funding model. As indicated in our May 2023 Comment Letter, it is also due in large part to the SROs’ inability to directly manage the CAT, which has now effectively become a Commission system. We continue to emphasize Industry Members’ willingness to work with the Commission and the SROs to develop a CAT funding model. Nonetheless, we continue to be placed in the position of having to respond to formal proposals by the CAT Operating Committee through the notice and comment process for NMS Plan amendments, rather than through a dialogue in which consensus is sought prior to filing formal proposals with the Commission. This has led to the inefficient and drawn-out process we have been facing time and time again over the last several years.

Accordingly, we again call on the SROs to engage in meaningful dialogue and collaboration with the industry prior to submitting formal a CAT funding model with the Commission. As evidenced by the significant delays, we believe such a process would lead to a better outcome for all interested parties.

 

1 SIFMA is the leading trade association for broker-dealers, investment banks and asset managers operating in the U.S. and global capital markets. On behalf of our industry’s one million employees, we advocate on legislation, regulation and business policy affecting retail and institutional investors, equity and fixed income markets and related products and services. We serve as an industry coordinating body to promote fair and orderly markets, informed regulatory compliance, and efficient market operations and resiliency. We also provide a forum for industry policy and professional development. SIFMA is the U.S. regional member of the Global Financial Markets Association (GFMA). For more information, visit http://www.sifma.org.

2 See Release No. 34-97151 (March 15, 2023), 88 FR 17086 (March 21, 2023). Capitalized terms not otherwise defined in this letter have the same meanings as they do in the CAT NMS Plan and/or the Funding Proposal.

3 See (https://www.sec.gov/comments/4-698/4698-20132695-303187.pdf) (“June 2022 Comment Letter”), (https://www.sec.gov/comments/4-698/4698-20145239-310561.pdf) (“October 2022 Comment Letter”), (https://www.sec.gov/comments/4-698/4698-20152795-320485.pdf) (“December 2022 Comment Letter”), (https://www.sec.gov/comments/4-698/4698-20154753-322976.pdf) (“January 2023 Comment Letter”); and (https://www.sec.gov/comments/4-698/4698-182799-335422.pdf) (“May 2023 Comment Letter”.

4 The Funding Proposal replaces and is virtually identical to the prior “Executed Share Model” that was withdrawn by the SROs on March 1, 2023. See Release No. 34-97212 (March 28, 2023), 88 FR 19693 (April 3, 2023).

5 See, e.g., Sections 6 and 15A of the Exchange Act.

6 See (https://www.sec.gov/comments/4-698/4698-191099-378422.pdf).

7 The CAT Operating Committee has also misrepresented positions taken by FINRA in its comment letter on the Funding Proposal. See (https://www.sec.gov/comments/4-698/4698-194699-386902.pdf).

8 See (https://www.sec.gov/os/sunshine-act-notices/sunshine-act-notice-open-060723).

9 See (https://www.sec.gov/rules/sro/nms/2022/34-95634.pdf).

10 SIFMA has repeatedly stressed the need for an independent cost oversight function, whereby the annual budget can be reviewed and approved, given the past missteps. To reasonably ensure the Funding Proposal provides “for the equitable allocation of reasonable dues, fees and other charges” and is “not designed to permit unfair discrimination between customers, issuers, brokers or dealers” this independent body to oversee CAT costs must include industry representatives. This body should be responsible for determining an annual operating budget, and unplanned overages should not be passed along to Industry Members. See, e.g., (https://www.waterstechnology.com/regulation/4152906/cats-tale-how-thesys-the-sros-and-the-sec-mishandled-the-consolidated-audit-trail).

11 For example, the Funding Proposal broadly claims that allocating a greater percentage of CAT costs to Participants “would raise fairness issues” because there “are only 25 Participants and approximately 1,100 Members.” 88 FR 17104. The Funding Proposal, however, completely fails to analyze how CAT costs will distributed across the 1,100 Members, which could pose significant fairness and competition concerns. Additionally, the Funding Proposal broadly asserts “a substantial portion of CAT costs originates from Industry Members.” Id. It then concedes that “costs are dominated by technology costs,” all of which the Participants (and the Commission) had sole responsibility for designing, building, and implementing.

12 See (https://www.sec.gov/news/public-statement/clayton-kimmel-redfearn-nms-cat-2020-08-21).

13 See (https://www.sec.gov/files/Eval-of-the-EDGAR-Systems-Governance-and-Incident-Handling-Processes.pdf; https://www.sec.gov/news/statement/second-commission-statement-relating-certain-administrative-adjudications).

14 See Release No. 34-96495 (December 14, 2022), 88 FR 128 (January 3, 2023) (Order Competition Rule); Release No. 34-96494 (December 14, 2022), 87 FR 80266 (December 29, 2022) (Regulation NMS: Minimum Pricing Increments, Access Fees, and Transparency of Better Priced Orders); Release No. 34-96496 (December 14, 2022), 88 FR 5440 (January 27, 2023).

15 See (https://www.sifma.org/resources/news/the-secs-current-far-ranging-aggressive-rulemaking-agenda-will-raise-regulatory-uncertainty-and-risks-unintended-negative-consequences/).

16 See SIFMA FOIA Request Re: Information Regarding the Data Relied upon by the Commission in Proposing Certain Commission Rulemaking Related to Market Structure dated Feb. 8, 2023.

17 See (https://www.sec.gov/files/fy-2023-congressional-budget-justification-annual-performance-plan_final.pdf).

18 See (https://www.sec.gov/tm/staff-guidance-sro-rule-filings-fees).

19 See Release No. 34-89618 (August 19, 2020), 85 FR 65470 (October 15, 2020).