If you followed my speeches when I was in the U.S. Senate and my writing since then, you know I have been frustrated by how little the Securities Exchange Commission has done to keep up with changes in our financial markets. You also know how concerned I am about the threats posed by high frequency trading (HFT) and complex new market structures. HFT now accounts for as much as 84 percent of U.S. equity trading, according to Morgan Stanley, up from less than 10 percent in the early 2000s. It is no coincidence that confidence in the fairness of our markets has plummeted during those years. If we do nothing to allay fears that the stock market has become a casino rigged in favor of insiders, we could lose the greatest engine of economic growth in history.
Finally, the SEC has begun to take some action. Last month the agency announced a historic first fine of the New York Stock Exchange, on charges that it was unfairly giving advance market information to some of its premium paying customers. Robert Khuzami, the head of the SEC's Enforcement Division, sent a very welcome message when he said, "Improper early access to market data, even measured in milliseconds, can in today's markets be a real and substantial advantage that disproportionately disadvantages retail and long-term investors."
A week after it cracked down on improper HFT trading, the SEC announced a newly-established Office of Analytics and Research to be headed by Gregg Berman, a Princeton Ph.D. physicist. Charged with analyzing trading data and monitoring the markets, Dr. Berman said, "What we will focus on is trying to shed more light on some of the big outstanding questions about market structure. What is the impact of high frequency trading? What's the effect of high rates of order cancellations? What's the connection between exchange- traded funds and individual stocks? How might different rules impact the market?"
Last week, the agency took another step in the right direction when it hired Tradeworx, an HFT-savvy New Jersey firm, to open up its sophisticated computer program to regulators. As the New York Times reported, by the end of the year,
... [this] will give the SEC its first real-time window into the stock market -- something firms like Tradeworx have had for years... With the Tradeworx program, the agency will gain access to every bid to buy stocks and every offer to sell shares on each of the nation's 13 public exchanges. The system, akin to an X-ray machine for the stock market, could enable regulators to detect whether trading firms are overwhelming the market's plumbing when they rapidly submit and cancel orders.
That's a lot of progress in just a month, but a lot more needs to be done, as a series of reports written by David Weild for the accounting firm of Grant Thornton makes clear. Investigating the impact of HFT and new market structures on the critically important initial public offering (IPO) market, Mr. Weild reports that "the market for underwritten IPOs, given its current structure, is closed to 80 percent of the companies that need it. In fact, since 2001 the U.S. has averaged only 126 IPOs per year," compared to an average of 530 in the years from 1991-2000. He found that emerging companies can no longer rely on the U.S. capital markets for an infusion of capital, nor can they turn to credit-strapped banks. Unable to expand and grow, less able to innovate and compete, too many are left to wither and die, contributing to today's high unemployment rate.
The SEC must also follow through on the consolidated audit trail I called for and Chair Mary Schapiro endorsed in July of 2009. The proposal adopted by the agency three years later, in July of 2012, was described correctly by Commissioner Elisse Walter as "disappointingly weak." It must be strengthened to give the SEC the timely data it must have to be truly effective.