By John McCrank
NEW YORK (Reuters) – Some of the biggest players in the U.S. equities market went to Capitol Hill on Tuesday to update lawmakers on issues that impact stock trading, including potential conflicts of interest arising from exchanges paying brokers for orders.
The hearing gave top executives from stock exchanges, fund companies and brokerages a chance to detail their often competing issues to members of the House of Representatives Committee on Financial Services subcommittee on capital markets.
One recurring topic in the three-hour hearing was the rebates exchanges pay to brokers that send them resting orders for others to trade against.
“In simple terms, this payment to brokers when not shared with the broker’s client is equivalent to a kickback,” Brad Katsuyama, chief executive officer of exchange operator IEX Group, which does not pay rebates, said in prepared remarks.
Exchanges operated by Nasdaq Inc <NDAQ.O>, the New York Stock Exchange and Bats pay around $2.5 billion a year in rebates, and the practice is increasingly affecting the decisions brokers and exchanges make, Katsuyama said.
U.S. Securities and Exchange Commission staff have been drafting a proposal to test reducing the maximum amount exchanges can charge brokers to execute orders on their platforms. Lowering the fee cap would also reduce the amount of rebates that exchanges could pay to brokers.
Exchanges that pay the rebates say the practice promotes liquidity and compensates market makers for taking the risk of providing it. Critics argue the payments give incentives for brokers to send their customers’ orders to exchanges with the biggest rebates rather than to exchanges that would get the best result for the end clients.
Executives from Bats, which is owned by CBOE Holdings <CBOE.O>, and Nasdaq said rebates are an important means for attracting liquidity from market makers, but that a one-size-fits-all approach might not be the best way to go.
They said there is ample liquidity in the stocks of large companies, and the rebates for those orders could be reduced without much effect. But the stocks of many small and mid-sized companies are much harder to trade, and reducing the payments for them would further hamper trading, they said.
Ari Rubenstein, head of high-frequency trading firm Global Trading Systems, which is one of the largest market makers on the New York Stock Exchange, agreed that if rebates were to go away, liquidity for small- and mid-cap stocks would decline.
(Reporting by John McCrank; Editing by Leslie Adler)