Yesterday Gary Gensler gave an interview to Bloomberg, and I thought he made some very interesting comments that are worth highlighting.

He started by putting crypto exchanges on notice – you’re probably trading securities, and unless you register that’s a big problem.

The conversation about Payment For Order Flow (PFOF) started around the 3:30 mark.

You may have seen my tweet yesterday about how the SEC is considering making this a disclosure issue, rather than making market structure changes. As such, he was specifically asked about this: Do you still think it’s possible to ban PFOF altogether or will we have full disclosure?

His response was very telling:

“We’re trying to drive greater transparency and efficiency in the middle of the market.”

“In the equity markets right now, if you place a retail market order, 90-95% do not go to the lit exchanges … they go to wholesalers. They don’t have order by order competition. Part of that is because of PFOF.”

“It’s banned in the UK, Canada, Australia, the European Union … is looking at that right now”

“I think it’s natural to say – how do we drive greater competition and efficiency in this market”

These are not the responses of someone who is only considering disclosure, and I found that to be a relief. I am not disturbed or bothered by the pace of change at the moment, which I'll get to later on in the post. This is normal for the SEC, and frankly despite how obvious you think the changes needed are, regulators need to move slowly and deliberately in order to be able to justify their actions if challenged.

The fact that he specifically highlighted other countries that have banned, or are considering banning PFOF, is very important. He has continued to focus on the question of competition, which in my mind is the exact right angle to take. We want open competition for order flow, not just 2-3 firms competing for retail orders.

He also called out something called "order by order competition." This is an extremely important phrase, though it might not strike you as such at first. Nearly every retail broker has argued against the need for order-by-order competition in judging best execution. Instead, they have consistently made the argument that it is sufficient to judge best execution by aggregated statistics on order flow, rather than individual outcomes for each order. However, in my blog post last week, I highlighted how these stats can be gamed and manipulated, and how a broker focused on order-by-order competition can achieve far better outcomes and execution quality.

The interviewer continued to push him on the question though, asking "Are you keeping open the option of banning it altogether?"

Once again, Gensler's response was very telling. Note he immediately focuses on the lack of transparency and competition - this is the theme of this entire interview, and it bodes very well for real market structure changes:

“It would be a decision for the 5 member Commission, we would put it out to notice and comment… basically a lot of our market right now is dark, it’s not in the lit markets, it’s dark and going to wholesalers, and how do we get more transparency and competition in the market, and so each feature is on the table, whether it’s something called the minimum increment or tick size … and how the order routing works, and yes that includes not just PFOF but possibly … exchange rebates. It all fits together.”

He ends the answer by including "exchange rebates" in the mix, which is very encouraging too. Exchange rebates are another form of payment for order flow, and while they are different (they incentivize orders to be sent to lit exchanges) they are still order routing inducements that create a conflict-of-interest between broker profitability and best execution. The problem in markets is not simply PFOF - it's a systemic set of conflicts-of-interest, and rent-seeking by incumbents cloaked in complexity. Simplifying markets does not just mean eliminating PFOF - but eliminating conflicts and complexity wherever possible.

Of course, he could not give an estimate or guess on when any of this is coming. Later in the interview, he said that he hoped to get a proposal out on this to public comment this year.

When asked about RH and meme stocks, Gensler’s response was that he couldn't comment because the Commission has to vote on enforcement actions. That was a telling no-comment.

He talked about the upcoming Commission meeting next week which will be considering the first market structure change resulting from the January 2021 chaos, focused on shortening the settlement cycle and removing some of the risk of clearing and settlement. He specifically talked about the removal of the buy button, and that he hoped this would help to address that.

The interview went on to questions around ESG and greenwashing.

Finally, he was asked "What do you want to get done in 2022?"

"We have an opportunity make markets fairer to the American public ... and we also have a chance to lower the cost of capital to companies raising money ... I would hope this year we would put out many of these proposals, hopefully we'll even turn to finalizing some of them ... this is a multi-year project, we don't want to rush things, we want to get it right.

Market efficiency, new technologies, greater transparency and competition, and ... disclosure."

He's got an incredible full and diverse agenda, and he's trying to move it all along. These are significant, substantive market structure changes, and the keywords at the end - efficiency, transparency and competition - are critical.

This interview left me much more optimistic given what I had previously heard. I think when you read between the lines, you find some very significant statements from Gensler about the SEC agenda for 2022. While I'd like to see so many of these changes yesterday, I understand the process and that regulators need to move deliberately.

I am even more convinced that 2022 will be the year of market structure wars. These changes will threaten billion dollar profits at politically powerful firms, and they will fight with every weapon in their arsenal. Gensler said many times that public comment and involvement will be critical as these changes are considered. We plan on being extremely vocal and involved as these changes get proposed, and we hope you'll be there with us to fight to make markets more transparent, fair and competitive!