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Notice

Joint Industry Plan; Notice of Filing of the National Market System Plan Governing the Consolidated Audit Trail

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Start Preamble Start Printed Page 30614 April 27, 2016.

Table of Contents

I. Introduction

II. Background

III. Description of the Plan

A. Statement of Purpose and Request for Comment

1. Background

2. Request for Exemption from Certain Requirements under Rule 613

3. Requirements Pursuant to Rule 608(a)

B. Summary of Additional CAT NMS Plan Provisions and Request for Comment

1. Reporting Procedures

2. Timeliness of Data Reporting

3. Uniform Format

4. Clock Synchronization

5. Time Stamp Granularity

6. CAT-Reporter-ID

7. Customer-ID

8. Order Allocation Information

9. Options Market Maker Quotes

10. Error Rates

11. Regulatory Access

12. Security, Confidentiality, and Use of Data

IV. Economic Analysis

A. Introduction

B. Summary of Expected Economic Effects

C. Framework for Economic Analysis

1. Economic Framework

2. Existing Uncertainties

3. Request for Comment on the Framework

D. Baseline

1. Current State of Regulatory Activities

2. Current State of Trade and Order Data

3. Request for Comment on the Baseline

E. Benefits

1. Improvements in Data Qualities

2. Improvements to Regulatory Activities

3. Other Provisions of the CAT NMS Plan

4. Request for Comment on the Benefits

F. Costs

1. Analysis of Expected Costs

2. Aggregate Costs to Industry

3. Further Analysis of Costs

4. Second-Order Effects and Other Security-related Costs

5. Request for Comment on the Costs

G. Efficiency, Competition, and Capital Formation

1. Competition

2. Efficiency

3. Capital Formation

4. Related Considerations Affecting Competition, Efficiency and Capital Formation

5. Request for Comment on Efficiency, Competition, and Capital Formation

H. Alternatives

1. Alternatives to the Approaches the Exemption Order Permitted to be Included in the Plan

2. Alternatives to Certain Specific Approaches in the CAT NMS Plan

3. Alternatives to the Scope of Certain Specific Elements in the CAT NMS Plan

4. Alternatives to the CAT NMS Plan

5. Request for Comment on the Alternatives

I. Request for Comment on the Economic Analysis

V. Paperwork Reduction Act

A. Summary of Collection of Information under Rule 613

1. Central Repository

2. Data Collection and Reporting

3. Collection and Retention of NBBO, Last Sale Data and Transaction Reports

4. Surveillance

5. Participant Rule Filings

6. Written Assessment of Operation of the Consolidated Audit Trail

7. Document on Expansion to Other Securities

B. Proposed Use of Information

1. Central Repository

2. Data Collection and Reporting

3. Collection and Retention of NBBO, Last Sale Data and Transaction Reports

4. Surveillance

5. Written Assessment of Operation of the Consolidated Audit Trail

6. Document on Expansion to Other Securities

C. Respondents

1. National Securities Exchanges and National Securities Associations

2. Members of National Securities Exchanges and National Securities Association

D. Total Initial and Annual Reporting and Recordkeeping Burden

1. Burden on National Securities Exchanges and National Securities Associations

2. Burden on Members of National Securities Exchanges and National Securities Associations

E. Collection of Information is Mandatory

F. Confidentiality

G. Recordkeeping Requirements

H. Request for Comments

VI. Solicitation of Comments

I. Introduction

Pursuant to Section 11A of the Securities Exchange Act of 1934 (the “Act”) [1] and Rule 608 thereunder,[2] notice is hereby given that on February 27, 2015, BATS Exchange, Inc., BATS-Y Exchange, Inc., BOX Options Exchange LLC, C2 Options Exchange, Incorporated, Chicago Board Options Exchange, Incorporated, Chicago Stock Exchange, Inc., EDGA Exchange, Inc., EDGX Exchange, Inc., Financial Industry Regulatory Authority, Inc., International Securities Exchange, LLC, ISE Gemini, LLC, Miami International Securities Exchange LLC, NASDAQ OMX BX, Inc., NASDAQ OMX PHLX LLC, The NASDAQ Stock Market LLC, National Stock Exchange, Inc., New York Stock Exchange LLC, NYSE MKT LLC, and NYSE Arca, Inc. (collectively, “SROs” or “Participants”), filed with the Securities and Exchange Commission (the “Commission” or “SEC”) a National Market System Plan Governing the Consolidated Audit Trail (the “CAT NMS Plan” or “Plan”).[3] On December 24, 2015, the SROs submitted an Amendment to the CAT NMS Plan.[4] A copy of the CAT NMS Plan, as modified by the Amendment, is attached as Exhibit A hereto. The Commission is publishing this Notice to solicit comments on the CAT NMS Plan. The Commission also is publishing notice of, and soliciting comment on, an analysis of the potential economic effects of implementing the CAT NMS Plan, as set forth in Section IV of this Notice, and the collection of information requirements in the CAT NMS Plan as required by the Paperwork Reduction Act, as set forth in Section V of this Notice.

II. Background

The Commission believes that the regulatory data infrastructure on which the SROs and the Commission currently must rely generally is outdated and inadequate to effectively oversee a complex, dispersed, and highly automated national market system. In performing their oversight responsibilities, regulators today must Start Printed Page 30615attempt to cobble together disparate data from a variety of existing information systems lacking in completeness, accuracy, accessibility, and/or timeliness—a model that neither supports the efficient aggregation of data from multiple trading venues nor yields the type of complete and accurate market activity data needed for robust market oversight.

Currently, FINRA and some of the exchanges maintain their own separate audit trail systems for certain segments of this trading activity, which vary in scope, required data elements and format. In performing their market oversight responsibilities, SRO and Commission Staffs today must rely heavily on data from these various SRO audit trails. However, as noted in Section IV.D below, there are shortcomings in the completeness, accuracy, accessibility, and timeliness of these existing audit trail systems. Some of these shortcomings are a result of the disparate nature of the systems, which make it impractical, for example, to follow orders through their entire lifecycle as they may be routed, aggregated, re-routed, and disaggregated across multiple markets. The lack of key information in the audit trails that would be useful for regulatory oversight, such as the identity of the customers who originate orders, or even the fact that two sets of orders may have been originated by the same customer, is another shortcoming.[5]

Though SRO and Commission Staff also have access to sources of market activity data other than SRO audit trails, these systems each suffer their own drawbacks. For example, data obtained from the electronic blue sheet (“EBS”) [6] system and equity cleared reports [7] comprise only trade executions, and not orders or quotes. In addition, like data from existing audit trails, data from these sources lacks key elements important to regulators, such as the identity of the customer in the case of equity cleared reports. Furthermore, recent experience with implementing incremental improvements to the EBS system has illustrated some of the overall limitations of the current technologies and mechanisms used by the industry to collect, record, and make available market activity data for regulatory purposes.[8]

Recognizing these shortcomings, on July 11, 2012, the Commission adopted Rule 613 of Regulation NMS under the Act.[9] Rule 613 required the SROs to submit a national market system (“NMS”) plan to create, implement, and maintain a consolidated audit trail (“CAT”) that would capture customer and order event information for orders in NMS securities, across all markets, from the time of order inception through routing, cancellation, modification, or execution in a single, consolidated data source.[10] On February 27, 2015, the SROs submitted the CAT NMS Plan.[11]

The SROs also submitted a separate NMS plan and an exemptive request letter related to the CAT NMS Plan. Specifically, on September 3, 2013, the SROs filed an NMS Plan pursuant to Rule 608 governing the SROs' review, evaluation, and ultimate selection of the Plan Processor [12] for the consolidated audit trail (the “Selection Plan”).[13] The Selection Plan was published for comment in the Federal Register on November 21, 2013 and approved by the Commission on February 21, 2014.[14] Subsequently, the SROs filed three amendments to the Selection Plan, two of which were approved by the Commission on June 17, 2015 and September 24, 2015 [15] The CAT NMS Plan reflects the process approved by the Commission for reviewing, evaluating and ultimately selecting the Plan Processor, as set forth in the Selection Plan, as amended. Second, on January 30, 2015, the SROs filed an application,[16] pursuant to Rule 0-12 under the Act,[17] requesting that the Commission grant exemptions from certain requirements of Rule 613. The Commission granted the exemptions on March 1, 2016.[18] The CAT NMS Plan Start Printed Page 30616published for comment in this Notice reflects the exemptive relief granted by the Commission.

III. Description of the Plan

As described further in this Section III of this Notice, the SROs propose to conduct the activities of the CAT through CAT NMS, LLC, a jointly owned limited liability company formed under Delaware state law; and to that end, the SROs submitted the CAT NMS, LLC's limited liability company agreement (the “LLC Agreement”), including exhibits and appendices attached thereto, to the Commission as the CAT NMS Plan. The SROs also submitted a cover letter that included a description of the CAT NMS Plan, along with the information required by Rule 608(a)(4) and (5) under the Act,[19] which is set forth below in Section III.A of this Notice as substantially prepared and submitted by the SROs. Set forth in Section III.B is a summary of additional CAT NMS Plan provisions and requests for comment.[20]

The LLC Agreement, attached hereto as Exhibit A, sets forth a governing structure, whereby the Operating Committee will manage the CAT NMS, LLC, and each SRO will be a member of, and have one vote within, the Operating Committee.[21] The LLC Agreement details the Operating Committee's procedures for selecting the Plan Processor,[22] who will be contracted to build the CAT, as well as the functions and activities of the Plan Processor. The LLC Agreement also sets forth the responsibilities of the Central Repository which, under the oversight of the Plan Processor, will receive, consolidate and retain the CAT Data.[23] The LLC Agreement also lists the requirements regarding the recording and reporting of CAT Data by the SROs as well as by broker-dealers, the security and confidentiality safeguards for CAT Data, surveillance requirements, fees and costs associated with operating the CAT, as well as other reporting and Technical Specifications and requirements.[24]

In Appendix C to the LLC Agreement, the SROs address the considerations listed in Rule 613(a)(1), providing information and analysis regarding the specific features, details, costs, and processes related to the CAT NMS Plan. Appendix D to the LLC Agreement provides an outline of the CAT's minimum functional and technical requirements for the Plan Processor.

A. Statement of Purpose and Request for Comment

The following statement of purpose provided herein is substantially as prepared and submitted by the SROs to the Commission.[25] Throughout the statement of purpose, the Commission has inserted requests for comment. The portion of this Notice prepared by the Commission will re-commence in Section III.B.

* * * * *

1. Background

On July 11, 2012, the Commission adopted Rule 613 [26] to require the national securities exchanges and national securities association to jointly submit a national market system plan to create, implement, and maintain a consolidated audit trail and central repository.[27] Rule 613 outlines a broad framework for the creation, implementation, and maintenance of the consolidated audit trail, including the minimum elements the Commission believes are necessary for an effective consolidated audit trail.[28]

Since the adoption of Rule 613, the Participants have worked to formulate an effective Plan. To this end, the Participants have, among other things, developed a plan for selecting the Plan Processor, solicited and evaluated Bids, and engaged diverse industry participants in the development of the Plan. Throughout, the Participants have sought to implement a process that is fair, transparent, and consistent with the standards and considerations in Rule 613.

a. The Request for Proposal and Selection Plan

On February 26, 2013, the Participants published a request for proposal (“RFP”) soliciting Bids from parties interested in serving as the Plan Processor.[29] The Participants concluded that publication of an RFP was necessary to ensure that potential alternative solutions to creating the Plan and the CAT could be presented and considered, and that a detailed and meaningful cost-benefit analysis could be performed. The Participants asked any potential bidders to notify the Participants of their intent to bid by March 5, 2013. Initially, 31 firms submitted intentions to bid, four of which were Participants or affiliates of Participants. In the following weeks and months, the Participants engaged with potential bidders with respect to, among other things, the selection process, selection criteria, and potential bidders' questions and concerns.[30]

On September 4, 2013, the Participants filed with the Commission a national market system plan to govern the process for Participant review of the Bids submitted in response to the RFP, the procedure for evaluating the Bids, and, ultimately, selection of the Plan Processor (the “Selection Plan”).[31] The Commission approved the Selection Plan as filed on February 21, 2014.[32] On March 21, 2014, the Participants received ten Bids in response to the RFP.

The Selection Plan divides the review and evaluation of Bids, and the selection of the Plan Processor, into various stages, certain of which have been completed to date.[33] Specifically, pursuant to the Selection Plan, the Selection Committee reviewed all Bids and determined which Bids contained sufficient information to allow the Participants to meaningfully assess and evaluate the Bids. The ten submitted Bids were deemed “Qualified Bids,” [34] and so passed to the next stage, in which each Bidder presented its Bids in person to the Participants on a confidential basis. On July 1, 2014, after conducting careful analysis and comparison of the Bids, the Selection Committee voted and selected six Shortlisted Bidders, thus eliminating four Bidders from continuing in the process.[35] The Selection Committee, Start Printed Page 30617subject to applicable recusal provisions in the Selection Plan, will determine whether Shortlisted Bidders will be provided the opportunity to revise their Bids. After the Selection Committee further assesses and evaluates the Shortlisted Bids, including any permitted revisions to the Bids, the Selection Committee will select the Plan Processor via two rounds of voting by the Senior Voting Officers as specified in the Plan.[36]

b. Selection Plan Governance and Operations

The Selection Plan established an Operating Committee responsible for formulating, drafting, and filing with the Commission the Plan and for ensuring that the Participants' joint obligations under Rule 613 were met in a timely and efficient manner.[37] Each Participant selected one individual and one substitute to serve on the Operating Committee, with other representatives of each Participant permitted to attend Operating Committee meetings.[38] In formulating the Plan, the Participants also engaged multiple persons across a wide range of roles and expertise, engaged the consulting firm Deloitte & Touche LLP as a project manager, and engaged the law firm Wilmer Cutler Pickering Hale and Dorr LLP to serve as legal counsel in drafting the Plan. Within this structure, the Participants focused on, among other things, comparative analyses of the proposed technologies and operating models, development of funding models to support the building and operation of the CAT, and detailed review of governance considerations. Since July 2012, the Participants have held approximately 608 meetings related to the CAT.[39] These governance and organizational structures will continue to be in effect until the Commission's final approval of the Plan.[40]

c. Engagement With Industry Participants

Throughout the process of developing the Plan, the Participants consistently have been engaged in meaningful dialogue with industry participants with respect to the development of the CAT. From the outset of this process, the Participants have recognized that industry input is a critical component in the creation of the Plan. To this end, the Participants created a Web site [41] to update the public on the progress of the Plan, published requests for comment on multiple issues related to the Plan, held multiple public events to inform the industry of the progress of the CAT and to address inquiries, and formed, and later expanded, a Development Advisory Group (the “DAG”) to solicit more input from a representative industry group.

The DAG conducted 43 meetings [42] to discuss, among other things, technical and operational aspects the Participants were considering for the Plan. The Participants twice issued press releases soliciting participants for the DAG, and a wide spectrum of firms was deliberately chosen to provide insight from various industry segments affected by the CAT.[43] The DAG currently consists of the Participants, and 27 diverse firms and organizations (including broker-dealers of varying sizes, the Options Clearing Corporation, a service bureau and three industry trade associations) with a variety of subject matter expertise.[44] The DAG meetings have included discussions of topics such as Options Market Maker quote reporting, requirements for capturing Customer-IDs, time stamps and clock synchronization, reporting requirements for order handling scenarios, cost and funding, error handling and corrections, and potential elimination of Rules made redundant by the CAT.[45]

In addition, the CAT Web site includes a variety of resources for the public with respect to the development of the CAT. The site contains an overview of the process, an expression of the guiding principles behind the Plan development, links to relevant regulatory actions, gap analyses comparing the requirements of Rule 613 with current reporting systems, the CAT implementation timeline, a summary of the RFP process, a set of frequently-asked questions (updated on an ongoing basis), questions for comment from the industry, industry feedback on the development of the Plan, and announcements and notices of upcoming events. This Web site, along with the requests for comments and many public events (announced on the site), have been a venue for public communication with respect to the development of the Plan.

2. Request for Exemption From Certain Requirements Under Rule 613

Following multiple discussions between the Participants and both the DAG and the Bidders, as well as among the Participants themselves, the Participants recognized that some provisions of Rule 613 would not permit certain solutions to be included in the Plan that the Participants determined advisable to effectuate the most efficient and cost-effective CAT. Consequently, on January 30, 2015, the Participants submitted to the Commission a request for exemptive relief from certain provisions of Rule 613 regarding: (1) Options Market Maker quotes; (2) Customer-IDs; (3) CAT-Reporter-IDs; (4) linking of executions to specific subaccount allocations on Allocation Reports; and (5) time stamp granularity for manual order events.[46] Specifically, the Participants requested that the Commission grant an exemption from:

Start Printed Page 30618

Rule 613(c)(7)(ii) and (iv) for Options Market Makers with regard to their options quotes;

Rule 613(c)(7)(i)(A), (c)(7)(iv)(F), (c)(7)(viii)(B) and (c)(8) which relate to the requirements for Customer-IDs;

Rule 613(c)(7)(i)(C), (c)(7)(ii)(D), (c)(7)(ii)(E), (c)(7)(iii)(D), (c)(7)(iii)(E), (c)(7)(iv)(F), (c)(7)(v)(F), (c)(7)(vi)(B) and (c)(8) which relate to the requirements for CAT-Reporter-IDs;

Rule 613(c)(7)(vi)(A), which requires CAT Reporters to record and report the account number of any subaccounts to which the execution is allocated; and

The millisecond time stamp granularity requirement in Rule 613(d)(3) for certain manual order events subject to time stamp reporting under Rules 613(c)(7)(i)(E), 613(c)(7)(ii)(C), 613(c)(7)(iii)(C), and 613(c)(7)(iv)(C).

The Participants believe that the requested relief is critical to the development of a cost-effective approach to the CAT.[47]

3. Requirements Pursuant to Rule 608(a)

a. Description of Plan

Rule 613 requires the Participants to “jointly file . . . a national market system plan to govern the creation, implementation, and maintenance of a consolidated audit trail and Central Repository.” [48] The purpose of the Plan, and the creation, implementation and maintenance of a comprehensive audit trail for the U.S. securities market described therein, is to “substantially enhance the ability of the SROs and the Commission to oversee today's securities markets and fulfill their responsibilities under the federal securities laws.” [49] It “will allow for the prompt and accurate recording of material information about all orders in NMS securities, including the identity of customers, as these orders are generated and then routed throughout the U.S. markets until execution, cancellation, or modification. This information will be consolidated and made readily available to regulators in a uniform electronic format.” [50] The SROs note that the following summarizes various provisions of the Plan, which is set forth in full as Exhibit A to this Notice.

(1) LLC Agreement

The Participants propose to conduct the activities related to the CAT in a Delaware limited liability company pursuant to a limited liability company agreement, entitled the Limited Liability Company Agreement of CAT NMS, LLC (“Company”). The Participants will jointly own on an equal basis the Company. The Company will create, implement and maintain the CAT. The limited liability company agreement (“LLC Agreement”) itself, including its appendices, is the proposed Plan, which would be a national market system plan as defined in Rule 600(b)(43) of NMS.

(2) Participants

Each national securities exchange and national securities association currently registered with the Commission would be a Participant in the Plan. The names and addresses of each Participant are set forth in Exhibit A to the Plan. Article III of the Plan provides that any entity approved by the Commission as a national securities exchange or national securities association under the Exchange Act after the Effective Date may become a Participant by submitting to the Company a completed application in the form provided by the Company and satisfying each of the following requirements: (1) Executing a counterpart of the LLC Agreement as then in effect; and (2) paying a fee to the Company in an amount determined by a Majority Vote of the Operating Committee as fairly and reasonably compensating the Company and the Participants for costs incurred in creating, implementing and maintaining the CAT (including such costs incurred in evaluating and selecting the Initial Plan Processor and any subsequent Plan Processor) and for costs the Company incurs in providing for the prospective Participant's participation in the Company, including after consideration of certain factors identified in Section 3.3(b) of the Agreement (“Participation Fee”). The amendment of the Plan reflecting the admission of a new Participant will be effective only when: (1) It is approved by the SEC in accordance with Rule 608 or otherwise becomes effective pursuant to Rule 608; and (2) the prospective Participant pays the Participation Fee.

A number of factors are relevant to the determination of a Participation Fee. Such factors include: (1) The portion of costs previously paid by the Company for the development, expansion and maintenance of the CAT which, under GAAP, would have been treated as capital expenditures and would have been amortized over the five years preceding the admission of the prospective Participant; (2) an assessment of costs incurred and to be incurred by the Company for modifying the CAT or any part thereof to accommodate the prospective Participant, which costs are not otherwise required to be paid or reimbursed by the prospective Participant; (3) Participation Fees paid by other Participants admitted as such after the Effective Date; (4) elapsed time from the Effective Date to the anticipated date of admittance of the prospective Participant; and (5) such other factors, if any, as may be determined to be appropriate by the Operating Committee and approved by the Commission. In the event that the Company and a prospective Participant do not agree on the amount of the Participation Fee, such amount will be subject to review by the SEC pursuant to Section 11A(b)(5) of the Exchange Act.

An applicant for participation in the Company may apply for limited access to the CAT System for planning and testing purposes pending its admission as a Participant by submitting to the Company a completed Application for Limited Access to the CAT System in a form provided by the Company, accompanied by payment of a deposit in the amount established by the Company, which will be applied or refunded as described in such application. To be eligible to apply for such limited access, the applicant must have been approved by the SEC as a national securities exchange or national securities association under the Exchange Act but the applicant has not yet become a Participant of the Plan, or the SEC must have published such applicant's Form 1 Application or From [sic] X-15AA-1 Application to become a national securities exchange or a national securities association, respectively.

All Company Interests will have the same rights, powers, preferences and privileges and be subject to the same restrictions, qualifications and limitations. Once admitted, each Participant will be entitled to one vote on any matter presented to Participants for their consideration and to participate equally in any distribution made by the Company (other than a distribution made pursuant to Section 10.2 of the Plan). Each Participant will have a Company Interest equal to that of each other Participant.

Article III also describes a Participant's ability to Transfer a Company Interest. A Participant may only Transfer any Company Interest to a national securities exchange or national securities association that succeeds to the business of such Participant as a result of a merger or consolidation with such Participant or the Transfer of all or substantially all of Start Printed Page 30619the assets or equity of such Participant (“Permitted Transferee”). A Participant may not Transfer any Company Interest to a Permitted Transferee unless: (1) Such Permitted Transferee executes a counterpart of the Plan; and (2) the amendment to the Plan reflecting the Transfer is approved by the SEC in accordance with Rule 608 or otherwise becomes effective pursuant to Rule 608.

In addition, Article III addresses the voluntary resignation and termination of participation in the Plan. Any Participant may voluntarily resign from the Company, and thereby withdraw from and terminate its right to any Company Interest, only if: (1) A Permitted Legal Basis for such action exists; and (2) such Participant provides to the Company and each other Participant no less than thirty days prior to the effective date of such action written notice specifying such Permitted Legal Basis, including appropriate documentation evidencing the existence of such Permitted Legal Basis, and, to the extent applicable, evidence reasonably satisfactory to the Company and other Participants that any orders or approvals required from the SEC in connection with such action have been obtained. A validly withdrawing Participant will have the rights and obligations discussed below with regard to termination of participation.

A Participant's participation in the Company, and its right to any Company Interest, will terminate as of the earliest of: (1) The effective date specified in a valid resignation notice; (2) such time as such Participant is no longer registered as a national securities exchange or national securities association; or (3) the date of termination for failure to pay fees. With regard to the payment of fees, each Participant is required to pay all fees or other amounts required to be paid under the Plan within thirty days after receipt of an invoice or other notice indicating payment is due (unless a longer payment period is otherwise indicated) (the “Payment Date”). If a Participant fails to make such a required payment by the Payment Date, any balance in the Participant's Capital Account will be applied to the outstanding balance. If a balance still remains with respect to any such required payment, the Participant will pay interest on the outstanding balance from the Payment Date until such fee or amount is paid at a per annum rate equal to the lesser of: (1) The Prime Rate plus 300 basis points; or (2) the maximum rate permitted by applicable law. If any such remaining outstanding balance is not paid within thirty days after the Payment Date, the Participants will file an amendment to the Plan requesting the termination of the participation in the Company of such Participant, and its right to any Company Interest, with the SEC. Such amendment will be effective only when it is approved by the SEC in accordance with Rule 608 or otherwise becomes effective pursuant to Rule 608.

From and after the effective date of termination of a Participant's participation in the Company, profits and losses of the Company will cease to be allocated to the Capital Account of the Participant. A terminated Participant will be entitled to receive the balance in its Capital Account as of the effective date of termination adjusted for profits and losses through that date, payable within ninety days of the effective date of termination, and will remain liable for its proportionate share of costs and expenses allocated to it for the period during which it was a Participant, for obligations under Section 3.8(c) regarding the return of amounts previously distributed (if required by a court of competent jurisdiction), for its indemnification obligations pursuant to Section 4.1, and for obligations under Section 9.6 regarding confidentiality, but it will have no other obligations under the Plan following the effective date of termination. The Plan will be amended to reflect any termination of participation in the Company of a Participant, provided that such amendment will be effective only when it is approved by the SEC in accordance with Rule 608 or otherwise becomes effective pursuant to Rule 608.

Request for Comment

1. Do Commenters believe that the process for a national securities exchange and national securities association to become a Participant pursuant to and under the CAT NMS Plan is clearly and adequately set forth in the CAT NMS Plan? Do Commenters believe that the process for, and the circumstances under which a Participant could voluntarily terminate its participation as a Participant to the CAT NMS Plan is clearly and adequately set forth in the CAT NMS Plan? If not, what additional details should be provided? Do Commenters believe that these two processes are appropriate and reasonable?

2. Do Commenters believe that the process and enumerated factors for determining the Participation Fee are clear and reasonable under the CAT NMS Plan? If not, what additional modifications, if any, should be considered in the Participation Fee determination process?

3. Are restrictions on the transfer of a Company Interest appropriate and reasonable? If not, why not? What additional limitations or factors, if any, should be imposed on such transfers? Please explain.

4. Do Commenters believe that permitting the termination of a Participant that continues to be a registered national securities exchange or national securities association from participation in the Company is an appropriate recourse for failure to pay Participant fees? If not, can Commenters recommend an alternative remedy? Please explain.

5. Are there other circumstances that should trigger termination of participation in the Company? If yes, what are they?

(3) Management

Article IV of the Plan establishes the overall governance structure for the management of the Company. Specifically, the Participants propose that the Company be managed by an Operating Committee.[51]

The Operating Committee will consist of one voting member representing each Participant and one alternate voting member representing each Participant who will have a right to vote only in the absence of the Participant's voting member of the Operating Committee. Each of the voting and alternate voting members of the Operating Committee will be appointed by the Participant that he or she represents, will serve at the will of the Participant appointing such member and will be subject to the confidentiality obligations of the Participant that he or she represents as set forth in Section 9.6. One individual may serve as the voting member of the Operating Committee for multiple Affiliated Participants, and such individual will have the right to vote on behalf of each such Affiliated Participant.

The Operating Committee will elect, by Majority Vote, one of its members to act as Chair for a term of two years. No Person may serve as Chair for more than two successive full terms, and no Person then appointed to the Operating Committee by a Participant that then serves, or whose Affiliate then serves, as the Plan Processor will be eligible to serve as the Chair. The Chair will preside at all meetings of the Operating Committee, designate a Person to act as Secretary, and perform such other duties and possess such other powers as the Operating Committee may from time Start Printed Page 30620to time prescribe. The Chair will not be entitled to a tie-breaking vote at any meeting of the Operating Committee.

Each of the members of the Operating Committee, including the Chair, will be authorized to cast one vote for each Participant that he or she represents on all matters voted upon by the Operating Committee. Action of the Operating Committee will be authorized by Majority Vote (except under certain designated circumstances), subject to the approval of the SEC whenever such approval is required under the Exchange Act and the rules thereunder. For example, the Plan specifically notes that a Majority Vote of the Operating Committee is required to: (1) Select the Chair; (2) select the members of the Advisory Committee (as described below); (3) interpret the Plan (unless otherwise noted therein); (4) approve any recommendation by the Chief Compliance Officer pursuant to Section 6.2(a)(v)(A); (5) determine to hold an Executive Session of the Operating Committee; (6) determine the appropriate funding-related policies, procedures and practices consistent with Article XI; and (7) any other matter specified elsewhere in the Plan (which includes the Appendices to the Plan) as requiring a vote, approval or other action of the Operating Committee (other than those matters expressly requiring a Supermajority Vote or a different vote of the Operating Committee).

Article IV requires a Supermajority Vote of the Operating Committee, subject to the approval of the SEC when required, for the following: (1) Selecting a Plan Processor, other than the Initial Plan Processor selected in accordance with Article V of the Plan; (2) terminating the Plan Processor without cause in accordance with Section 6.1(p); (3) approving the Plan Processor's appointment or removal of the Chief Information Security Officer, Chief Compliance Officer, or any Independent Auditor in accordance with Section 6.1(b); (4) entering into, modifying or terminating any Material Contract (if the Material Contract is with a Participant or an Affiliate of a Participant, such Participant and Affiliated Participant will be recused from any vote); (5) making any Material Systems Change; (6) approving the initial Technical Specifications or any Material Amendment to the Technical Specifications proposed by the Plan Processor; (7) amending the Technical Specifications on its own motion; and (8) any other matter specified elsewhere in the Plan (which includes the Appendices to the Plan) as requiring a vote, approval or other action of the Operating Committee by a Supermajority Vote.

A member of the Operating Committee or any Subcommittee thereof (as discussed below) shall recuse himself or herself from voting on any matter under consideration by the Operating Committee or such Subcommittee if such member determines that voting on such matter raises a Conflict of Interest. In addition, if the members of the Operating Committee or any Subcommittee (excluding the member thereof proposed to be recused) determine by Supermajority Vote that any member voting on a matter under consideration by the Operating Committee or such Subcommittee raises a Conflict of Interest, such member shall be recused from voting on such matter. No member of the Operating Committee or any Subcommittee will be automatically recused from voting on any matter except matters involving Material Contracts as discussed in the prior paragraph, as otherwise specified in the Plan, and as follows: (1) If a Participant is a Bidding Participant whose Bid remains under consideration, members appointed to the Operating Committee or any Subcommittee by such Participant or any of its Affiliated Participants will be recused from any vote concerning: (a) Whether another Bidder may revise its Bid; (b) the selection of a Bidder; or (c) any contract to which such Participant or any of its Affiliates would be a party in its capacity as Plan Processor; and (2) if a Participant is then serving as Plan Processor, is an Affiliate of the Person then serving as Plan Processor, or is an Affiliate of an entity that is a Material Subcontractor to the Plan Processor, then in each case members appointed to the Operating Committee or any Subcommittee by such Participant or any of its Affiliated Participants shall be recused from any vote concerning: (a) The proposed removal of such Plan Processor; or (b) any contract between the Company and such Plan Processor.

Article IV also addresses meetings of the Operating Committee.[52] Meetings of the Operating Committee may be attended by each Participant's voting Representative and its alternate voting Representative and by a maximum of two nonvoting Representatives of each Participant, by members of the Advisory Committee, by the Chief Compliance Officer, by other Representatives of the Company and the Plan Processor, by Representatives of the SEC and by such other Persons that the Operating Committee may invite to attend. The Operating Committee, however, may, where appropriate, determine to meet in Executive Session during which only voting members of the Operating Committee will be present. The Operating Committee, however, may invite other Representatives of the Participants, of the Company, of the Plan Processor (including the Chief Compliance Officer and the Chief Information Security Officer) or the SEC, or such other Persons that the Operating Committee may invite to attend, to be present during an Executive Session. Any determination of the Operating Committee to meet in an Executive Session will be made upon a Majority Vote and will be reflected in the minutes of the meeting. In addition, any Person that is not a Participant but for which the SEC has published a Form 1 Application or Form X-15AA-1 to become a national securities exchange or national securities association, respectively, will be permitted to appoint one primary Representative and one alternate Representative to attend regularly scheduled Operating Committee meetings in the capacity of a non-voting observer, but will not be permitted to have any Representative attend a special meeting, emergency meeting or meeting held in Executive Session of the Operating Committee.

The Operating Committee may, by Majority Vote, designate by resolution one or more Subcommittees it deems necessary or desirable in furtherance of the management of the business and affairs of the Company. For any Subcommittee, any member of the Operating Committee who wants to serve thereon may so serve. If Affiliated Participants have collectively appointed one member to the Operating Committee to represent them, then such Affiliated Participants may have only that member serve on the Subcommittee or may decide not to have only that collectively appointed member serve on the Subcommittee. Such member may designate an individual other than himself or herself who is also an employee of the Participant or Affiliated Participants that appointed such member to serve on a Subcommittee in lieu of the particular member. Subject to the requirements of the Plan and non-waivable provisions of Delaware law, a Subcommittee may exercise all the powers and authority of the Operating Committee in the management of the business and affairs of the Company as so specified in the resolution of the Start Printed Page 30621Operating Committee designating such Subcommittee.

Article IV requires that the Operating Committee maintain a Compliance Subcommittee for the purpose of aiding the Chief Compliance Officer as necessary, including with respect to issues involving: (1) The maintenance of the confidentiality of information submitted to the Plan Processor or Central Repository pursuant to Rule 613, applicable law, or the Plan by Participants and Industry Members; (2) the timeliness, accuracy, and completeness of information submitted pursuant to Rule 613, applicable law or the Plan by Participants and Industry Members; and (3) the manner and extent to which each Participant is meeting its obligations under Rule 613, Section 3.11, and as set forth elsewhere in the Plan and ensuring the consistency of the Plan's enforcement as to all Participants.

Article IV also sets forth the requirements for the formation and functioning of an Advisory Committee, which will advise the Participants on the implementation, operation and administration of the Central Repository, including possible expansion of the Central Repository to other securities and other types of transactions.

Article IV describes the composition of the Advisory Committee. No member of the Advisory Committee may be employed by or affiliated with any Participant or any of its Affiliates or facilities. The Operating Committee will select one member from representatives of each of the following categories to serve on the Advisory Committee on behalf of himself or herself individually and not on behalf of the entity for which the individual is then currently employed: (1) A broker-dealer with no more than 150 Registered Persons; (2) a broker-dealer with at least 151 and no more than 499 Registered Persons; (3) a broker-dealer with 500 or more Registered Persons; (4) a broker-dealer with a substantial wholesale customer base; (5) a broker-dealer that is approved by a national securities exchange: (a) To effect transactions on an exchange as a specialist, market maker or floor broker; or (b) to act as an institutional broker on an exchange; (6) a proprietary-trading broker-dealer; (7) a clearing firm; (8) an individual who maintains a securities account with a registered broker or dealer but who otherwise has no material business relationship with a broker or dealer or with a Participant; (9) a member of academia with expertise in the securities industry or any other industry relevant to the operation of the CAT System; (10) an institutional investor trading on behalf of a public entity or entities; (11) an institutional investor trading on behalf of a private entity or entities; and (12) an individual with significant and reputable regulatory expertise. The members selected to represent categories (1) through (12) above must include, in the aggregate, representatives of no fewer than three broker-dealers that are active in the options business and representatives of no fewer than three broker-dealers that are active in the equities business. In addition, upon a change in employment of any such selected member, a Majority Vote of the Operating Committee will be required for such member to be eligible to continue to serve on the Advisory Committee. Furthermore, the SEC's Chief Technology Officer (or the individual then currently employed in a comparable position providing equivalent services) will serve as an observer of the Advisory Committee (but not be a member). The members of the Advisory Committee will have a term of three years.[53]

Members of the Advisory Committee will have the right to attend meetings of the Operating Committee or any Subcommittee, to receive information concerning the operation of the Central Repository, and to submit their views to the Operating Committee or any Subcommittee on matters pursuant to the Plan prior to a decision by the Operating Committee on such matters. A member of the Advisory Committee will not have a right to vote on any matter considered by the Operating Committee or any Subcommittee. In addition, the Operating Committee or any Subcommittee may meet in Executive Session if the Operating Committee or Subcommittee determines by Majority Vote that such an Executive Session is advisable.[54] Although members of the Advisory Committee will have the right to receive information concerning the operation of the Central Repository, the Operating Committee retains the authority to determine the scope and content of information supplied to the Advisory Committee, which will be limited to that information that is necessary and appropriate for the Advisory Committee to fulfill its functions. Any information received by members of the Advisory Committee will remain confidential unless otherwise specified by the Operating Committee.

Article IV also describes the appointment of Officers for the Company. Specifically, the Chief Compliance Officer and the Chief Information Security Officer, each of whom will be employed solely by the Plan Processor and neither of whom will be deemed or construed in any way to be an employee of the Company, will be Officers of the Company. Neither such Officer will receive or be entitled to any compensation from the Company or any Participant by virtue of his or her service in such capacity (other than if a Participant is then serving as the Plan Processor, compensation paid to such Officer as an employee of such Participant). Each such Officer will report directly to the Operating Committee. The Chief Compliance Officer will work on a regular and frequent basis with the Compliance Subcommittee and/or other Subcommittees as may be determined by the Operating Committee. Except to the extent otherwise provided in the Plan, including Section 6.2, each such Officer will have such fiduciary and other duties with regard to the Plan Processor as imposed by the Plan Processor on such individual by virtue of his or her employment by the Plan Processor.

In addition, the Plan Processor will inform the Operating Committee of the individual who has direct management responsibility for the Plan Processor's performance of its obligations with respect to the CAT. Subject to approval by the Operating Committee of such individual, the Operating Committee will appoint such individual as an Officer. In addition, the Operating Committee by Supermajority Vote may appoint other Officers as it shall from time to time deem necessary. Any Officer appointed pursuant to Section 4.6(b) will have only such duties and responsibilities as set forth in the Plan, or as the Operating Committee shall from time to time expressly determine. No such Officer shall have any authority to bind the Company (which authority is vested solely in the Operating Committee) or be an employee of the Company, unless in each case the Operating Committee, by Supermajority Vote, expressly determines otherwise. No person subject to a “statutory disqualification” (as defined in Section 3(a)(39) of the Exchange Act) may serve as an Officer. It is the intent of the Participants that the Company have no employees.Start Printed Page 30622

Request for Comment

6. Do Commenters believe that the organizational, governance and/or managerial structure of CAT NMS, LLC is in the public interest? Why or why not?

7. Do Commenters believe that the organizational, governance, and/or managerial structure set forth in the CAT NMS Plan, including the role of the Operating Committee, is appropriate and reasonable? If not, please explain.

8. The CAT NMS Plan specifies the corporate actions that require a Majority Vote and the corporate actions that require a Supermajority Vote. Do Commenters believe that such voting procedures are appropriate and reasonable? Should any corporate actions require a higher or lower voting threshold than specified in the Plan? Are there any corporate actions that should require a Supermajority Vote? Please explain.

9. Do Commenters believe that the CAT NMS Plan should explicitly or more clearly specify who should determine whether a systems change or amendment is “material”? If so, who? Please explain.

10. Do Commenters believe that two successive full terms is an appropriate and reasonable term limit for a Person to serve as chair of the Operating Committee? If not, please explain.

11. Section 1.1 defines Conflict of Interest to mean that the interest of a Participant (e.g., commercial, reputational, regulatory, or otherwise) in the matter that is subject to the vote; (a) interferes, or would be reasonably likely to interfere with that Participant's objective consideration of the matter; and (b) is, or is reasonably likely to be, inconsistent with the purpose and objectives of the Company, and the CAT, taking into account all relevant considerations, including whether a Participant that may otherwise have a conflict of interest has established appropriate safeguards to eliminate such conflicts of interest and taking into account the other guiding principles set forth in the LLC Agreement. Do Commenters believe this definition of “Conflict of Interest” is appropriate and reasonable? Please explain.

12. Do Commenters believe that the definition of Conflict of Interest of the CAT NMS Plan properly reflects the business interests of each Participant and the Operating Committee? If not, please explain. Do Commenters believe that the CAT NMS Plan governing procedures on Conflicts of Interest and recusals contained in Section 4.3(d) of the CAT NMS Plan, reasonably and adequately address Conflicts of Interest? If not, please explain. Are there other conflicts of interest that may arise for any Participant that are not addressed in the CAT NMS Plan definitions or governing procedures? If so, what?

13. Is the CAT NMS Plan clear and reasonable regarding whether it permits the Operating Committee to delegate the authority to vote on matters to a Subcommittee? If so, in what circumstances? Are there any circumstances in which a Subcommittee would or should be prohibited from voting in place of the Operating Committee? Please explain.

14. Do Commenters believe that the Advisory Committee structure and provisions set forth in the CAT NMS Plan are appropriate and reasonable? Is the size of the Advisory Committee as contemplated by the Plan appropriate and reasonable? Are the Advisory Committee member categories reasonable and adequately representative of entities impacted by the CAT NMS Plan? Would expanding membership on the Advisory Committee to any additional types of entities enhance the quality of the input it would provide to the Operating Committee? Please explain.

15. Is the mechanism for determining who serves on the Advisory Committee (i.e., selection by the Operating Committee) appropriate and reasonable? Should Participants be required to publicly solicit Advisory Committee membership interest? Should the Advisory Committee be able to self-nominate replacement candidates? Please explain.

16. Do Commenters believe that the CAT NMS Plan's requirement that Advisory Committee members serve on the Advisory Committee in their personal capacities, and that the Operating Committee members serve on the Operating Committee as representatives of their employers who are the Plan Participants create different incentives for members of the Advisory Committee and members of the Operating Committee? If so, in what ways? Do Commenters believe that these differing incentives would impact the regulatory objective of the CAT? If so, in what ways?

17. The CAT NMS Plan outlines the size, tenure and membership categories of the Advisory Committee members. Do Commenters believe there are any additional or alternative factors that should be taken into consideration in structuring the Advisory Committee that would benefit the operation of the CAT? If so, what are those additional or alternative factors? How would these factors benefit the operation of the CAT?

18. Are the roles and responsibilities of the Advisory Committee clearly and adequately set forth in the CAT NMS Plan? If not, why not? Should additional details on these roles and responsibilities be provided? If so, what additional details should be provided?

19. Are there any alternatives for involvement by the Advisory Committee that could increase the effectiveness of the Advisory Committee? For example, should the Advisory Committee be given a vote in connection with decisions regarding the CAT NMS Plan, equivalent to the vote each Participant has? If so, please specifically identify the alternatives for involvement and how those alternatives could increase the effectiveness of the CAT.

20. Do Commenters believe that the Advisory Committee is structured in a way that would allow industry to provide meaningful input on the implementation, operation, and administration of the CAT? If not, please explain and/or provide specific suggestions for improving the Advisory Committee structure. Should additional authority be given to the Advisory Committee, for example allowing it to initiate its own recommendations? Should additional mechanisms through which the industry or others could provide input be included in the CAT NMS Plan? [55] Should the Operating Committee be required to respond to the Advisory Committee's views, formally or informally, in advance of or following a decision by the Operating Committee? Should the Operating Committee be required to include Advisory Committee views in filings with the Commission? Please explain.

21. Do Commenters believe that the Plan's provision that prohibits the Advisory Committee from attending any Executive Session of the Operating Committee is appropriate and reasonable?

22. Do Commenters believe that the CAT NMS Plan adequately sets forth provisions regarding the scope, authority, and duties of the Officers of the CAT, as well as the scope and authority of the Plan Processor generally? If not, what further provisions should the CAT NMS Plan set forth with respect to Officers and the Plan Processor and why?

23. Do Commenters believe that the Operating Committee and the proposed CAT NMS Plan governance structure would ensure effective corporate governance, process and action? Why or why not?Start Printed Page 30623

24. The CAT NMS Plan provides that emergency meetings of the Operating Committee may be called at the request of two or more Participants, and may be held as soon as practical after such a meeting is called. Do Commenters believe that there should be a different method for the Operating Committee to meet and take action in the event of an emergency? Should the CAT NMS Plan denote certain emergency situations in which the Operating Committee must be required to take action on an expedited basis? If so, what time period would be reasonable to require action by the Operating Committee and what mechanisms or processes should the Operating Committee be required to follow?

25. What, if any, impact on the Operating Committee's governance and voting do Affiliated Participant groups have? Do Commenters believe that the Operating Committee's governance and voting provisions set forth in the CAT NMS Plan, including the definitions of Supermajority Vote and Majority Vote, are appropriate and reasonable in light of these Affiliated Participant groups? What, if any, additional governance and voting provisions or protections should be included? Is there an alternative model for voting rights that would be more appropriate and reasonable, for example distributing votes using a measure other than exchange licenses?

26. Do Commenters believe the use of Executive Session is appropriate and reasonable? Is a Majority Vote the appropriate mechanism for the Operating Committee to go into Executive Session? Should the CAT NMS Plan specify particular scenarios for which an Executive Session is or is not appropriate?

27. Do Commenters believe that the provisions in the CAT NMS Plan regarding the mechanics of voting by the Operating Committee, the Selection Committee, or other entities are appropriate and reasonable? Does the CAT NMS Plan include sufficient detail on when voting should be carried out openly (e.g., in the presence of other attendees at a committee meeting) as opposed to when voting may be conducted by secret ballot or by some other confidential method? What are the advantages and disadvantages of different voting methodologies? Would particular actions or decisions regarding CAT be better suited to one voting methodology over others? Please explain.

28. Are there any other matters relating to the operation and administration of the Plan that should be included in the Plan for the Commission's consideration? If so, please identify such matters and explain why and how they should be addressed in the Plan.

(4) Initial Plan Processor Selection

Article V of the Plan sets forth the process for the Participants' evaluation of Bids and the selection process for narrowing down the Bids and choosing the Initial Plan Processor. The initial steps in the evaluation and selection process were and will be performed pursuant to the Selection Plan; the final two rounds of evaluation and voting, as well as the final selection of the Initial Plan Processor, will be performed pursuant to the Plan.[56]

As discussed above, the Selection Committee has selected the Shortlisted Bids pursuant to the Selection Plan. After reviewing the Shortlisted Bids, the Participants have identified the optimal proposed solutions for the CAT and, to the extent possible, included such solutions in the Plan.[57] The Selection Committee will determine, by majority vote, whether Shortlisted Bidders will have the opportunity to revise their Bids. To reduce potential conflicts of interest, no Bidding Participant may vote on whether a Shortlisted Bidder will be permitted to revise its Bid if a Bid submitted by or including the Participant or an Affiliate of the Participant is a Shortlisted Bid. The Selection Committee will review and evaluate all Shortlisted Bids, including any permitted revisions submitted by Shortlisted Bidders. In performing this review and evaluation, the Selection Committee may consult with the Advisory Committee and such other Persons as the Selection Committee deems appropriate, which may include the DAG until the Advisory Committee is formed.

After receipt of any permitted revisions, the Selection Committee will select the Initial Plan Processor from the Shortlisted Bids in two rounds of voting where each Participant has one vote via its Voting Senior Officer in each round.[58] No Bidding Participant, however, will be entitled to vote in any round if the Participant's Bid, a Bid submitted by an Affiliate of the Participant, or a Bid including the Participant or an Affiliate of the Participant is considered in such round.[59] In the first round, each Voting Senior Officer, subject to the recusal provision in Section 5.2(e)(ii), will select a first and second choice, with the first choice receiving two points and the second choice receiving one point. The two Shortlisted Bids receiving the highest cumulative scores in the first round will advance to the second round.[60] In the event of a tie, the tie will be broken by assigning one point per vote to the tied Shortlisted Bids, and the Shortlisted Bid with the most votes will advance. If this procedure fails to break the tie, a revote will be taken on the tied Bids with each vote receiving one point. If the tie persists, the Participants will identify areas for discussion, and revotes will be taken until the tie is broken.

Once two Shortlisted Bids have been chosen, the Voting Senior Officers of the Participants (other than those subject to recusal) will vote for a single Shortlisted Bid from the final two to determine the Initial Plan Processor. If the tie persists, the Participants will identify areas for discussion and, following these discussions, revotes will be taken until the tie is broken. As set forth in Article VI of the Plan, following the selection of the Initial Plan Processor, the Participants will file with the Commission a statement identifying the Initial Plan Processor and including the information required by Rule 608.

(5) Functions and Activities of CAT System

A. Plan Processor

Article VI describes the responsibilities of the selected Plan Processor. The Company, under the direction of the Operating Committee, will enter into one or more agreements with the Plan Processor obligating the Plan Processor to perform the functions and duties contemplated by the Plan to be performed by the Plan Processor, as well as such other functions and duties the Operating Committee deems necessary or appropriate.

As set forth in the Plan, the Plan Processor is required to develop and, with the prior approval of the Operating Committee, implement policies, procedures, and control structures related to the CAT System that are consistent with Rule 613(e)(4), Appendix C and Appendix D. The Plan Start Printed Page 30624Processor will: (1) Comply with applicable provisions of 15 U.S. Code § 78u-6 (Securities Whistleblower Incentives and Protection) and the recordkeeping requirements of Rule 613(e)(8); (2) consistent with Appendix D, Central Repository Requirements, ensure the effective management and operation of the Central Repository; (3) consistent with Appendix D, Data Management, ensure the accuracy of the consolidation of the CAT Data reported to the Central Repository; and (4) consistent with Appendix D, Upgrade Process and Development of New Functionality, design and implement appropriate policies and procedures governing the determination to develop new functionality for the CAT including, among other requirements, a mechanism by which changes can be suggested by Advisory Committee members, Participants, or the SEC. Such policies and procedures also shall: (1) Provide for the escalation of reviews of proposed technological changes and upgrades to the Operating Committee; and (2) address the handling of surveillance, including coordinated, Rule 17d-2 under the Exchange Act or Regulatory Surveillance Agreement(s) (RSA) surveillance queries and requests for data. Any policy, procedure or standard (and any material modification or amendment thereto) applicable primarily to the performance of the Plan Processor's duties as the Plan Processor (excluding any policies, procedures or standards generally applicable to the Plan Processor's operations and employees) will become effective only upon approval by the Operating Committee. The Plan Processor also will, subject to the prior approval of the Operating Committee, establish appropriate procedures for escalation of matters to the Operating Committee. In addition to other policies, procedures and standards generally applicable to the Plan Processor's employees and contractors, the Plan Processor will have hiring standards and will conduct and enforce background checks (e.g., fingerprint-based) for all of its employees and contractors to ensure the protection, safeguarding and security of the facilities, systems, networks, equipment and data of the CAT System, and will have an insider and external threat policy to detect, monitor and remedy cyber and other threats.

The Plan Processor will enter into appropriate Service Level Agreements (“SLAs”) governing the performance of the Central Repository, as generally described in Appendix D, Functionality of the CAT System, with the prior approval of the Operating Committee. The Plan Processor in conjunction with the Operating Committee will regularly review and, as necessary, update the SLAs, in accordance with the terms of the SLAs. As further contemplated in Appendix C, System Service Level Agreements (SLAs), and in Appendix D, System SLAs, the Plan Processor may enter into appropriate service level agreements with third parties applicable to the Plan Processor's functions related to the CAT System (“Other SLAs”), with the prior approval of the Operating Committee. The Chief Compliance Officer and/or the Independent Auditor will, in conjunction with the Plan Processor and as necessary the Operating Committee, regularly review and, as necessary, update the Other SLAs, in accordance with the terms of the applicable Other SLA. In addition, the Plan Processor: (1) Will, on an ongoing basis and consistent with any applicable policies and procedures, evaluate and implement potential system changes and upgrades to maintain and improve the normal day-to-day operating function of the CAT System; (2) in consultation with the Operating Committee, will, on an as needed basis and consistent with any applicable operational and escalation policies and procedures, implement such material system changes and upgrades as may be required to ensure effective functioning of the CAT System; and (3) in consultation with the Operating Committee, will, on an as needed basis, implement system changes and upgrades to the CAT System to ensure compliance with applicable laws, regulations or rules (including those promulgated by the SEC or any Participant). Furthermore, the Plan Processor will develop and, with the prior approval of the Operating Committee, implement a securities trading policy, as well as necessary procedures, control structures and tools to enforce this policy.

In addition, the Plan Processor will provide the Operating Committee regular reports on the CAT System's operation and maintenance. Furthermore, upon request of the Operating Committee or any Subcommittee, the Plan Processor will attend any meetings of the Operating Committee or such Subcommittee.

The Plan Processor may appoint such officers of the Plan Processor as it deems necessary and appropriate to perform its functions under the Plan and Rule 613. The Plan Processor, however, will be required to appoint, at a minimum, the Chief Compliance Officer, the Chief Information Security Officer, and the Independent Auditor. The Operating Committee, by Supermajority Vote, will approve any appointment or removal of the Chief Compliance Officer, Chief Information Security Officer, or the Independent Auditor.

The Plan Processor will designate an employee of the Plan Processor to serve, subject to the approval of the Operating Committee by Supermajority Vote, as the Chief Compliance Officer. The Plan Processor will also designate at least one other employee (in addition to the person then serving as Chief Compliance Officer), which employee the Operating Committee has previously approved, to serve temporarily as the Chief Compliance Officer if the employee then serving as the Chief Compliance Officer becomes unavailable or unable to serve in such capacity (including by reason of injury or illness). Any person designated to serve as the Chief Compliance Officer (including to serve temporarily) will be appropriately qualified to serve in such capacity based on the duties and responsibilities assigned to the Chief Compliance Officer and will dedicate such person's entire working time to such service (or temporary service) (except for any time required to attend to any incidental administrative matters related to such person's employment with the Plan Processor that do not detract in any material respect from such person's service as the Chief Compliance Officer). Article VI sets forth various responsibilities of the Chief Compliance Officer. With respect to all of his or her duties and responsibilities in such capacity (including those as set forth in the Plan), the Chief Compliance Officer will be directly responsible and will directly report to the Operating Committee, notwithstanding that she or he is employed by the Plan Processor. The Plan Processor, subject to the oversight of the Operating Committee, will ensure that the Chief Compliance Officer has appropriate resources to fulfill his or her obligations under the Plan and Rule 613. The compensation (including base salary and bonus) of the Chief Compliance Officer will be payable by the Plan Processor, but be subject to review and approval by the Operating Committee. The Operating Committee will render the Chief Compliance Officer's annual performance review.

The Plan Processor also will designate an employee of the Plan Processor to serve, subject to the approval of the Operating Committee by Supermajority Vote, as the Chief Information Security Officer. The Plan Processor will also designate at least one other employee (in addition to the person then serving as Chief Information Security Officer), which employee the Operating Start Printed Page 30625Committee has previously approved, to serve temporarily as the Chief Information Security Officer if the employee then serving as the Chief Information Security Officer becomes unavailable or unable to serve in such capacity (including by reason of injury or illness). Any person designated to serve as the Chief Information Security Officer (including to serve temporarily) will be appropriately qualified to serve in such capacity based on the duties and responsibilities assigned to the Chief Information Security Officer under the Plan and will dedicate such person's entire working time to such service (or temporary service) (except for any time required to attend to any incidental administrative matters related to such person's employment with the Plan Processor that do not detract in any material respect from such person's service as the Chief Information Security Officer).

The Plan Processor, subject to the oversight of the Operating Committee, will ensure that the Chief Information Security Officer has appropriate resources to fulfill the obligations of the Chief Information Security Officer set forth in Rule 613 and in the Plan, including providing appropriate responses to questions posed by the Participants and the SEC. In performing such obligations, the Chief Information Security Officer will be directly responsible and directly report to the Operating Committee, notwithstanding that he or she is employed by the Plan Processor. The compensation (including base salary and bonus) of the Chief Information Security Officer will be payable by the Plan Processor, but be subject to review and approval by the Operating Committee, and the Operating Committee will render the Chief Information Security Officer's annual performance review. Consistent with Appendices C and D, the Chief Information Security Officer will be responsible for creating and enforcing appropriate policies, procedures, standards, control structures and real time tools to monitor and address data security issues for the Plan Processor and the Central Repository, as described in the Plan. At regular intervals, to the extent that such information is available to the Company, the Chief Information Security Officer will report to the Operating Committee the activities of the Financial Services Information Sharing and Analysis Center (“FS-ISAC”) or comparable bodies to the extent that the Company has joined FS-ISAC or other comparable body.

The Plan Processor will afford to Participants and the Commission such access to the Representatives of the Plan Processor as any Participant or the Commission may reasonably request solely for the purpose of performing such Person's regulatory and oversight responsibilities pursuant to the federal securities laws, rules, and regulations or any contractual obligations. The Plan Processor will direct such Representatives to reasonably cooperate with any inquiry, investigation, or proceeding conducted by or on behalf of any Participant or the Commission related to such purpose.

The Operating Committee will review the Plan Processor's performance under the Plan at least once each year, or more often than once each year upon the request of two Participants that are not Affiliated Participants. The Operating Committee will notify the SEC of any determination made by the Operating Committee concerning the continuing engagement of the Plan Processor as a result of the Operating Committee's review of the Plan Processor and will provide the SEC with a copy of any reports that may be prepared in connection therewith.

The Operating Committee, by Supermajority Vote, may remove the Plan Processor from such position at any time. However, the Operating Committee, by Majority Vote, may remove the Plan Processor from such position at any time if it determines that the Plan Processor has failed to perform its functions in a reasonably acceptable manner in accordance with the provisions of the Plan or that the Plan Processor's expenses have become excessive and are not justified. In making such a determination, the Operating Committee will consider, among other factors: (1) The reasonableness of the Plan Processor's response to requests from Participants or the Company for technological changes or enhancements; (2) results of any assessments performed pursuant to Section 6.6; (3) the timeliness of conducting preventative and corrective information technology system maintenance for reliable and secure operations; (4) compliance with requirements of Appendix D; and (5) such other factors related to experience, technological capability, quality and reliability of service, costs, back-up facilities, failure to meet service level agreement(s) and regulatory considerations as the Operating Committee may determine to be appropriate.

In addition, the Plan Processor may resign upon two year's (or such other shorter period as may be determined by the Operating Committee by Supermajority Vote) prior written notice. The Operating Committee will fill any vacancy in the Plan Processor position by Supermajority Vote, and will establish a Plan Processor Selection Subcommittee to evaluate and review Bids and make a recommendation to the Operating Committee with respect to the selection of the successor Plan Processor.

Request for Comment

29. The CAT NMS Plan, Section 6.1 (Plan Processor) sets forth details regarding the Plan Processor's responsibilities. Do Commenters believe that the enumerated responsibilities of the Plan Processor are appropriate and reasonable? Please explain.

30. Do Commenters believe that the CAT NMS Plan provides the Operating Committee with sufficient authority to maintain oversight of the Plan Processor? Is the Plan Processor given too much discretion? Too little? Please explain.

31. The CAT NMS Plan provides in Section 6.1(s) that a Plan Processor may resign upon giving two years notice of such resignation. Do Commenters believe that two years is a sufficient amount of notice to ensure a replacement Plan Processor could be selected? Is two years too long a period to require notice of resignation? Why or why not?

32. The CAT NMS Plan includes two provisions governing removal of the Plan Processor. Section 6.1(q) allows the Operating Committee to remove the Plan Processor at any time by a Supermajority Vote. Do Commenters believe it is appropriate for the Operating Committee to have authority to remove the Plan Processor without cause upon a Supermajority Vote? Why or why not?

33. Section 6.1(r) of the CAT NMS Plan allows the Operating Committee to remove the Plan Processor by a Majority Vote if it determines that the Plan Processor has failed to perform its functions in a reasonably acceptable manner in accordance with the provisions of the CAT LLC Agreement or that the Plan Processor's expenses have become excessive and are not justified. Do Commenters believe it is appropriate and reasonable for the Operating Committee to have the authority to remove the Plan Processor on these bases using a Majority Vote? Why or why not, and with respect to which of these bases? Do Commenters believe there are other grounds upon which the Operating Committee should have the ability to remove the Plan Processor upon a Majority Vote?

34. The CAT NMS Plan states that the Plan Processor must implement policies and procedures consistent with Rule Start Printed Page 30626613(e)(4). Further, Rule 613(e)(4) requires that the CAT NMS Plan include policies and procedures to be used by the Plan Processor to ensure: (1) The security and confidentiality of all information reported to the Central Repository; (2) the timeliness, accuracy, integrity, and completeness of the data provided to the Central Repository; and (3) the accuracy of the consolidation by the Plan Processor of the data provided to the Central Repository. Do Commenters believe that such policies and procedures are adequately described in Appendix D of the CAT NMS Plan? Do Commenters believe such policies and procedures are appropriate and reasonable? Do Commenters believe that additions or deletions should be made to the policies and procedures? If so, please describe.

35. The CAT NMS Plan provides that the CCO and CISO, while Officers of CAT NMS, LLC, would be employees of the Plan Processor. Do Commenters believe that this arrangement creates any conflicts of interest that could undermine the ability of the CCO and CISO to effectively carry out their responsibilities under the CAT NMS Plan? Please describe any such conflicts of interest and explain how they could affect the performance of the CCO or CISO's CAT-related duties.

36. The CAT NMS Plan provides that the Operating Committee must approve the CCO and CISO selected by the Plan Processor by Supermajority Vote, that the CCO and CISO shall dedicate their entire working time to their service as CCO or CISO, that the Operating Committee shall have oversight over the Plan Processor's compensation of and provision of resources to the CCO and CISO, and that the CCO and CISO shall report directly to and receive annual performance reviews from the Operating Committee.[61] Do Commenters believe that these provisions adequately address any conflicts of interest resulting from the CCO and CISO being employees of the Plan Processor? Are there additional steps that could be taken to insulate the CCO and CISO from being unduly influenced by the Plan Processor?

37. The CAT NMS Plan provides that the CCO and CISO would not, to the extent permitted under applicable law, have fiduciary or similar duties to CAT NMS, LLC, but that they may have fiduciary or similar duties to the Plan Processor to the extent that their employment with the Plan Processor entails such duties.[62] Do Commenters believe that these provisions could affect the ability of the CCO and CISO to carry out their CAT-related duties? Would any alternative provisions be preferable? For example, should the Plan remain silent regarding the CCO and CISO's fiduciary or other duties to the Plan Processor and CAT NMS, LLC? Should the Plan require the CCO and CISO to affirmatively undertake fiduciary or similar duties to CAT NMS, LLC? Should the Plan Processor be required to select individuals who do not have fiduciary or similar duties to the Plan Processor to be the CCO or CISO? What are the advantages and disadvantages to each approach?

38. Is the mechanism by which changes to CAT functionality can be suggested to the Plan Processor by the Advisory Committee members, Participants, or the SEC appropriate and reasonable? Why or why not?

39. Is the Operating Committee's role in the hiring of the CCO, CISO, and Independent Auditor appropriate and reasonable? Should the Advisory Committee be consulted on these decisions? Why or why not?

B. Central Repository

The Central Repository, under the oversight of the Plan Processor, and consistent with Appendix D, Central Repository Requirements, will receive, consolidate, and retain all CAT Data. The Central Repository will collect (from a SIP or pursuant to an NMS Plan) and retain on a current and continuing basis, in a format compatible with the Participant Data and Industry Member Data, all data, including the following: (1) Information, including the size and quote condition, on quotes, including the National Best Bid and National Best Offer for each NMS Security; (2) Last Sale Reports and transaction reports reported pursuant to an effective transaction reporting plan filed with the SEC pursuant to, and meeting the requirements of, Rules 601 and 608; (3) trading halts, LULD price bands and LULD indicators; and (4) summary data.[63]

Consistent with Appendix D, Data Retention Requirements, the Central Repository will retain the information collected pursuant to paragraphs (c)(7) and (e)(7) of Rule 613 in a convenient and usable standard electronic data format that is directly available and searchable electronically without any manual intervention by the Plan Processor for a period of not less than six years. Such data when available to the Participant regulatory Staff and the SEC will be linked. In addition, the Plan Processor will implement and comply with the records retention policy contemplated by Section 6.1(d)(i).

Consistent with Appendix D, Data Access, the Plan Processor will provide Participants and the SEC access to the Central Repository (including all systems operated by the Central Repository), and access to and use of the CAT Data stored in the Central Repository, solely for the purpose of performing their respective regulatory and oversight responsibilities pursuant to the federal securities laws, rules and regulations or any contractual obligations. The Plan Processor will create and maintain a method of access to the CAT Data stored in the Central Repository that includes the ability to run searches and generate reports. The method in which the CAT Data is stored in the Central Repository will allow the ability to return results of queries that are complex in nature including market reconstruction and the status of order books at varying time intervals. The Plan Processor will, at least annually and at such earlier time promptly following a request by the Operating Committee, certify to the Operating Committee that only the Participants and the SEC have access to the Central Repository (other than access provided to any Industry Member for the purpose of correcting CAT Data previously reported to the Central Repository by such Industry Member).[64]

Request for Comment

40. Do Commenters believe that the requirements presented in Appendix D, Central Repository Requirements, are sufficiently detailed to guide the Plan Processor in how to build and operate the Central Repository with regard to receiving, consolidating, and retaining data? If not, what additional information should the requirements contain? Are there any requirements that should be eliminated? Will such provisions give the Plan Processor too much discretion or flexibility in how to build and operate the Central Repository with regard to receiving, consolidating, and retaining data? Please identify and explain why such requirements are not necessary or appropriate.

41. Do Commenters believe that the information provided in Appendix D, Data Access, is sufficiently detailed to Start Printed Page 30627inform the Plan Processor and regulators how access to data will be granted? Are the controls and security provisions related to regulatory access to data appropriate and reasonable? Should additional provisions be included? If so, please identify and explain why such provisions are necessary. Should any provisions be modified or eliminated? Will such provisions give the Plan Processor too much discretion or flexibility in how to build and operate the Central Repository with regard to regulator access to the data? If so, please identify and explain why such provisions should be modified or not included in the CAT NMS Plan.

42. The CAT NMS Plan does not mandate a specific method for primary data storage of CAT Data, but does require that the storage solution would meet the security, reliability, and accessibility requirements for the CAT, including storage of personally identifiable information (“PII”) data, separately. The CAT NMS Plan also indicates several considerations in the selection of a storage solution including maturity, cost, complexity, and reliability of the storage method. The Commission requests comment on whether the CAT NMS Plan should mandate a particular data storage method. Why or why not? What are the advantages and disadvantages for CAT of the various storage methods?

C. Data Recording and Reporting by Participants

The Plan also sets forth the requirements regarding the data recording and reporting by Participants.[65] Each Participant will record and electronically report to the Central Repository the following details for each order and each Reportable Event,[66] as applicable (“Participant Data”; also referred to as “Recorded Industry Member Data”, as discussed in the next Section):

for original receipt or origination of an order: (1) Firm Designated ID(s) (FDIs) for each customer; (2) CAT-Order-ID; (3) SRO-Assigned Market Participant Identifier of the Industry Member receiving or originating the order; (4) date of order receipt or origination; (5) time of order receipt or origination (using time stamps pursuant to Section 6.8); (6) the Material Terms of the Order; [67] and (7) other information as may be determined by the Operating Committee.[68]

for the routing of an order: (1) CAT-Order-ID; (2) date on which the order is routed; (3) time at which the order is routed (using time stamps pursuant to Section 6.8); (4) SRO-Assigned Market Participant Identifier of the Industry Member or Participant routing the order; (5) SRO-Assigned Market Participant Identifier of the Industry Member or Participant to which the order is being routed; (6) if routed internally at the Industry Member, the identity and nature of the department or desk to which the order is routed; (7) the Material Terms of the Order; and (8) other information as may be determined by the Operating Committee.[69]

for the receipt of an order that has been routed, the following information: (1) CAT-Order-ID; (2) date on which the order is received; (3) time at which the order is received (using time stamps pursuant to Section 6.8); (4) SRO-Assigned Market Participant Identifier of the Industry Member or Participant receiving the order; (5) SRO-Assigned Market Participant Identifier of the Industry Member or Participant routing the order; (6) the Material Terms of the Order; and (7) other information as may be determined by the Operating Committee.[70]

if the order is modified or cancelled: (1) CAT-Order-ID; (2) date the modification or cancellation is received or originated; (3) time at which the modification or cancellation is received or originated (using time stamps pursuant to Section 6.8); (4) price and remaining size of the order, if modified; (5) other changes in Material Terms, if modified; (6) whether the modification or cancellation instruction was given by the Customer, or was initiated by the Industry Member or Participant; and (7) other information as may be determined by the Operating Committee.[71]

if the order is executed, in whole or in part: (1) CAT-Order-ID; (2) date of execution; (3) time of execution (using time stamps pursuant to Section 6.8); (4) execution capacity (principal, agency or riskless principal); (5) execution price and size; (6) the SRO-Assigned Market Participant Identifier of the Participant or Industry Member executing the order; and (7) whether the execution was reported pursuant to an effective transaction reporting plan or the Plan for Reporting of Consolidated Options Last Sale Reports and Quotation Information; and

other information or additional events as may be determined by the Operating Committee [72] or otherwise prescribed in Appendix D, Reporting and Linkage Requirements.

As contemplated in Appendix D, Data Types and Sources, each Participant will report Participant Data to the Central Repository for consolidation and storage in a format specified by the Plan Processor, approved by the Operating Committee and compliant with Rule 613. As further described in Appendix D, Reporting and Linkage Requirements, each Participant is required to record the Participant Data contemporaneously with the Reportable Event. In addition, each Participant must report the Participant Data to the Central Repository by 8:00 a.m. Eastern Time on the Trading Day following the day that the Participant recorded the Participant Data. Participants may voluntarily report the Participant Data prior to the 8:00 a.m. Eastern Time deadline.

Each Participant that is a national securities exchange is required to comply with the above recording and reporting requirements for each NMS Security registered or listed for trading on such exchange or admitted to unlisted trading privileges on such exchange. Each Participant that is a national securities association is required to comply with the above recording and reporting requirements for each Eligible Security for which transaction reports are required to be submitted to the association.

D. Data Reporting and Recording by Industry Members

The Plan also sets forth the data reporting and recording requirements for Industry Members. Specifically, subject to Section 6.4(c), and Section 6.4(d)(iii) with respect to Options Market Makers, and consistent with Appendix D, Reporting and Linkage Requirements, each Participant, through its Compliance Rule, will require its Industry Members to record and electronically report to the Central Repository for each order and each Reportable Event the information referred to in Section 6.3(d), as applicable (“Recorded Industry Member Data”)—that is, Participant Data discussed above. In addition, subject to Section 6.4(c), and Section 6.4(d)(iii) with respect to Options Market Makers, and consistent with Appendix D, Reporting and Linkage Requirements, each Participant, through its Compliance Rule, will require its Industry Members to record and report to the Central Repository the following (“Received Industry Member Data” and, Start Printed Page 30628collectively with the Recorded Industry Member Data, “Industry Member Data”): (1) If the order is executed, in whole or in part: (a) An Allocation Report that includes the Firm Designated ID when an execution is allocated (in whole or in part); [73] (b) SRO-Assigned Market Participant Identifier of the clearing broker or prime broker, if applicable; and (c) CAT-Order-ID of any contra-side order(s); (2) if the trade is cancelled, a cancelled trade indicator; and (3) for original receipt or origination of an order, information of sufficient detail to identify the Customer.

With respect to the reporting obligations of an Options Market Maker with regard to its quotes in Listed Options, Reportable Events required pursuant to Section 6.3(d)(ii) and (iv) will be reported to the Central Repository by an Options Exchange in lieu of the reporting of such information by the Options Market Maker. Each Participant that is an Options Exchange will, through its Compliance Rule, require its Industry Members that are Options Market Makers to report to the Options Exchange the time at which a quote in a Listed Option is sent to the Options Exchange (and, if applicable, any subsequent quote modifications and/or cancellation time when such modification or cancellation is originated by the Options Market Maker). Such time information also will be reported to the Central Repository by the Options Exchange in lieu of reporting by the Options Market Maker.[74]

Each Participant will, through its Compliance Rule, require its Industry Members to record and report to the Central Repository other information or additional events as prescribed in Appendix D, Reporting and Linkage Requirements.

As contemplated in Appendix D, Data Types and Sources, each Participant will require its Industry Members to report Industry Member Data to the Central Repository for consolidation and storage in a format(s) specified by the Plan Processor, approved by the Operating Committee and compliant with Rule 613. As further described in Appendix D, Reporting and Linkage Requirements, each Participant will require its Industry Members to record Recorded Industry Member Data contemporaneously with the applicable Reportable Event. In addition, consistent with Appendix D, Reporting and Linkage Requirements, each Participant will require its Industry Members to report: (1) Recorded Industry Member Data to the Central Repository by 8:00 a.m. Eastern Time on the Trading Day following the day the Industry Member records such Recorded Industry Member Data; and (2) Received Industry Member Data to the Central Repository by 8:00 a.m. Eastern Time on the Trading Day following the day the Industry Member receives such Received Industry Member Data. Each Participant will permit its Industry Members to voluntarily report Industry Member Data prior to the applicable 8:00 a.m. Eastern Time deadline.[75]

Each Participant that is a national securities exchange must require its Industry Members to report Industry Member Data for each NMS Security registered or listed for trading on such exchange or admitted to unlisted trading privileges on such exchange. Each Participant that is a national securities association must require its Industry Members to report Industry Member Data for each Eligible Security for which transaction reports are required to be submitted to the association.

Request for Comment

43. Sections 6.3(d) and 6.4(d) of the CAT NMS Plan set forth the details that Participants and Industry Members must report to the Central Repository. Do Commenters believe that these details will be sufficient to allow the Central Repository to link information to accurately reflect the lifecycle of an order? If not, what additional information should be required to be reported for this purpose?

44. Sections 6.3 and 6.4 of the CAT NMS Plan require Participants and Industry Members to record and report to the Central Repository other information or additional events as may be prescribed in Appendix D, Reporting and Linkage Requirements. Do Commenters believe that the CAT NMS Plan is sufficiently clear regarding the “other information or additional events as may be prescribed in Appendix D” that may be required? Please explain. Are these “other information or additional events prescribed in Appendix D” appropriate and reasonable? Please explain.

45. The CAT NMS Plan does not specify the format in which CAT Reporters must submit data, and states the Plan Processor will specify the format. Do Commenters believe that the CAT NMS Plan should specify a particular format? If so, what format? Please explain.

E. Regular Written Assessment

As described in Article VI, the Participants are required to provide the Commission with a written assessment of the operation of the CAT that meets the requirements set forth in Rule 613, Appendix D, and the Plan at least every two years or more frequently in connection with any review of the Plan Processor's performance under the Plan pursuant to Section 6.1(m).[76] The Chief Compliance Officer will oversee this assessment and will provide the Participants a reasonable time to review and comment upon the written assessment prior to its submission to the SEC. In no case will the written assessment be changed or amended in response to a comment from a Participant; rather any comment by a Participant will be provided to the SEC at the same time as the written assessment.

Request for Comment

46. Do Commenters believe that the details and requirements regarding the regular written assessment of the operation of the CAT provided in Section 6.6 of the CAT NMS Plan are appropriate and reasonable? Would additional details or requirements for this assessment be beneficial?

47. Do Commenters believe that the Chief Compliance Officer should oversee the regular written assessment, as is required by Section 6.6? If not, would another party be better suited to this role?

F. Time Stamps and Synchronization of Business Clocks

Section 6.8 of the Plan discusses time stamps and the synchronization of Business Clocks. Each Participant is required to synchronize its Business Clocks (other than such Business Clocks used solely for Manual Order Events) at a minimum to within 50 milliseconds of the time maintained by the National Institute of Standards and Technology, consistent with industry standards. In addition, each Participant must, through its Compliance Rule, require its Industry Members to: (1) Synchronize their respective Business Clocks (other than such Business Clocks used solely for Manual Order Events) at a minimum to within 50 milliseconds of the time maintained by the National Institute of Standards and Technology, and maintain such a synchronization; (2) Start Printed Page 30629certify periodically that their Business Clocks meet the requirements of the Compliance Rule; and (3) report to the Plan Processor and the Participant any violation of the Compliance Rule pursuant to the thresholds set by the Operating Committee. Furthermore, each Participant is required to synchronize its Business Clocks and, through its Compliance Rule, require its Industry Members to synchronize their Business Clocks used solely for Manual Order Events at a minimum to within one second of the time maintained by the National Institute of Standards and Technology, consistent with industry standards, and maintain such synchronization. Each Participant will require its Industry Members to certify periodically (according to a schedule defined by the Operating Committee) that their Business Clocks used solely for Manual Order Events meet the requirements of the Compliance Rule. The Compliance Rule of a Participant shall require its Industry Members using Business Clocks solely for Manual Order Events to report to the Plan Processor any violation of the Compliance Rule pursuant to the thresholds set by the Operating Committee. The Participants stated their belief that pursuant to Rule 613(d)(1) that these synchronization standards are consistent with current industry standards.

Each Participant shall, and through its Compliance Rule require its Industry Members to, report information required by Rule 613 and this Agreement to the Central Repository in milliseconds. To the extent that any Participant utilizes time stamps in increments finer than the minimum required by the Plan, the Participant is required to make reports to the Central Repository utilizing such finer increment when reporting CAT Data to the Central Repository so that all Reportable Events reported to the Central Repository could be adequately sequenced. Each Participant will, through its Compliance Rule: (1) Require that, to the extent that its Industry Members utilize time stamps in increments finer than the minimum required in the Plan, such Industry Members will utilize such finer increment when reporting CAT Data to the Central Repository; and (2) provide that a pattern or practice of reporting events outside of the required clock synchronization time period without reasonable justification or exceptional circumstances may be considered a violation of SEC Rule 613 and the Plan. Notwithstanding the preceding sentences, each Participant and Industry Member will be permitted to record and report Manual Order Events to the Central Repository in increments up to and including one second, provided that Participants and Industry Members will be required to record and report the time when a Manual Order Event has been captured electronically in an order handling and execution system of such Participant or Industry Member in milliseconds. In conjunction with Participants' and other appropriate Industry Member advisory groups, the Chief Compliance Officer will annually evaluate and make a recommendation to the Operating Committee as to whether industry standards have evolved such that the required synchronization should be shortened or the required time stamp should be in finer increments. The Operating Committee will make determinations regarding the need to revise the synchronization and time stamp requirements.

Request for Comment [77]

48. Do Commenters believe that the CAT NMS Plan's requirement that Participants and Industry Members synchronize their Business Clocks to within 50 milliseconds of the time maintained by the National Institute of Standards and Technology (“NIST”) is appropriate and reasonable? Do Commenters agree with the Participants that this clock offset tolerance represents current industry standards? Would a tighter clock offset tolerance be feasible?

49. Do Commenters believe that the CAT NMS Plan's requirement that Participants and Industry Members report information to the Central Repository in milliseconds is appropriate and reasonable? Would a more granular time stamp requirement be feasible? Do Commenters agree with the Participants that time stamp granularity to the millisecond represents current industry standards?

50. How should “industry standard,” for purposes of the CAT NMS Plan's clock synchronization and time stamping requirements, be determined? Do Commenters believe that “industry standard” should be based on current industry practice? If not, how should “industry standard” be defined? What other factors, if any, should be considered in defining such “industry standards”?

G. Technical Specifications

Section 6.9 of the Plan establishes the requirements involving the Plan Processor's Technical Specifications. The Plan Processor will publish Technical Specifications that are at a minimum consistent with Appendices C and D, and updates thereto as needed, providing detailed instructions regarding the submission of CAT Data by Participants and Industry Members to the Plan Processor for entry into the Central Repository. The Technical Specifications will be made available on a publicly available Web site to be developed and maintained by the Plan Processor. The initial Technical Specifications and any Material Amendments thereto will require the approval of the Operating Committee by Supermajority Vote.

The Technical Specifications will include a detailed description of the following: (1) The specifications for the layout of files and records submitted to the Central Repository; (2) the process for the release of new data format specification changes; (3) the process for industry testing for any changes to data format specifications; (4) the procedures for obtaining feedback about and submitting corrections to information submitted to the Central Repository; (5) each data element, including permitted values, in any type of report submitted to the Central Repository; (6) any error messages generated by the Plan Processor in the course of validating the data; (7) the process for file submissions (and re-submissions for corrected files); (8) the storage and access requirements for all files submitted; (9) metadata requirements for all files submitted to the CAT System; (10) any required secure network connectivity; (11) data security standards, which will, at a minimum: (a) Satisfy all applicable regulations regarding database security, including provisions of Regulation Systems Compliance and Integrity under the Exchange Act (“Reg SCI”); (b) to the extent not otherwise provided for under the Plan (including Appendix C thereto), set forth such provisions as may be necessary or appropriate to comply with Rule 613(e)(4); and (c) comply with industry best practices; and (12) any other items reasonably deemed appropriate by the Plan Processor and approved by the Operating Committee.

Amendments to the Technical Specifications may be made only in accordance with Section 6.9(c). The process for amending the Technical Specifications varies depending on whether the change is material. An amendment will be deemed “material” if it would require a Participant or an Industry Member to engage in significant changes to the coding necessary to submit information to the Central Repository pursuant to the Plan, or if it is required to safeguard the Start Printed Page 30630security or confidentiality of the CAT Data. Except for Material Amendments to the Technical Specifications, the Plan Processor will have the sole discretion to amend and publish interpretations regarding the Technical Specifications; however, all non-Material Amendments made to the Technical Specifications and all published interpretations will be provided to the Operating Committee in writing at least ten days before being published. Such non-Material Amendments and published interpretations will be deemed approved ten days following provision to the Operating Committee unless two unaffiliated Participants call for a vote to be taken on the proposed amendment or interpretation. If an amendment or interpretation is called for a vote by two or more unaffiliated Participants, the proposed amendment must be approved by Majority Vote of the Operating Committee. Once a non-Material Amendment has been approved or deemed approved by the Operating Committee, the Plan Processor will be responsible for determining the specific changes to the Central Repository and providing technical documentation of those changes, including an implementation timeline.

Material Amendments to the Technical Specifications require approval of the Operating Committee by Supermajority Vote. The Operating Committee, by Supermajority Vote, may amend the Technical Specifications on its own motion.

Request for Comment

51. Do Commenters believe that the list of items to be included in the Technical Specifications, as set forth in Section 6.9(b) of the CAT NMS Plan, is appropriate and reasonable? Do Commenters believe that detailed descriptions of any of the listed items should be included in the CAT NMS Plan rather than in the Technical Specifications? Do Commenters believe that the list addresses all of the areas that should be included in the Technical Specifications? Are there other aspects of the CAT that require Technical Specifications? If so, please identify and explain why the additional Technical Specifications are needed.

52. Do Commenters believe the Plan Processor should have sole discretion to amend and publish interpretations regarding the Technical Specifications, except for Material Amendments? Why or why not? What discretion or input, if any, should the Operating Committee or other parties, including the Advisory Committee, have in amending and publishing Technical Specifications interpretations?

53. How should Technical Specifications be communicated to the industry? Why?

54. What are the incentives for the Operating Committee to review the Plan Processor's interpretation of Technical Specifications and verify that the interpretation is consistent with the regulatory objectives of the Plan? What are the best practices to ensure sufficient review by the Operating Committee? What provisions of the Plan are in place to ensure that the Operating Committee follows these practices? What provisions, if any, could be strengthened? Please explain and provide supporting examples and evidence, if available.

55. The CAT NMS Plan provides that non-Material Amendments and published interpretations will be deemed approved ten days following provision to the Operating Committee, unless two unaffiliated Participants call for a vote to be taken on the proposed amendment or interpretation. Do Commenters have any views on this process? If so, please explain.

56. Do Commenters have any views regarding the definition of Material Amendments? Is the definition too broad? Too narrow? Please explain. Do Commenters have any views on who should be responsible for determining whether an amendment to the Technical Specifications is a Material Amendment? Do Commenters believe the CAT NMS Plan clearly states who shall have the responsibility to make the determination? Do Commenters have any views on how the determination should be made? Please explain.

57. The CAT NMS Plan requires that Material Amendments be approved by the Operating Committee by Supermajority Vote and allows the Operating Committee to amend the Technical Specifications on its own motion by Supermajority Vote. Do Commenters have any views on these processes? If so, please explain.

58. The CAT NMS Plan provides that the Plan Processor's business continuity planning must include a secondary site for critical staff, capable of recovery and restoration of services within 48 hours, with the goal of next day recovery. Should the CAT NMS Plan provide additional details regarding “the goal of next day recovery”? Do Commenters believe a 48-hour recovery and restoration period is too long? Too short? Please explain. Should the CAT NMS Plan impose any other requirements on the Plan Processor to better assure the Plan Processor is able to transition to the secondary site within the specified time frames? If so, what?

H. Surveillance

Surveillance issues are described in Section 6.10. Using the tools provided for in Appendix D, Functionality of the CAT System, each Participant will develop and implement a surveillance system, or enhance existing surveillance systems, reasonably designed to make use of the consolidated information contained in the Central Repository. Unless otherwise ordered by the SEC, within fourteen months after the Effective Date, each Participant must initially implement a new or enhanced surveillance system(s) as required by Rule 613 and Section 6.10(a) of the Plan. Participants may, but are not required to, coordinate surveillance efforts through the use of regulatory services agreements and agreements adopted pursuant to Rule 17d-2 under the Exchange Act.

Consistent with Appendix D, Functionality of the CAT System, the Plan Processor will provide Participants and the SEC with access to all CAT Data stored in the Central Repository. Regulators will have access to processed CAT Data through two different methods: (1) An online targeted query tool; and (2) user-defined direct queries and bulk extracts. The online targeted query tool will provide authorized users with the ability to retrieve CAT Data via an online query screen that includes the ability to choose from a variety of pre-defined selection criteria. Targeted queries must include date(s) and/or time range(s), as well as one or more of a variety of fields. The user-defined direct queries and bulk extracts will provide authorized users with the ability to retrieve CAT Data via a query tool or language that allows users to query all available attributes and data sources.

Extraction of CAT Data will be consistent with all permission rights granted by the Plan Processor. All CAT Data returned will be encrypted, and PII data will be masked unless users have permission to view the PII contained in the CAT Data that has been requested.

The Plan Processor will implement an automated mechanism to monitor direct query usage. Such monitoring will include automated alerts to notify the Plan Processor of potential issues with bottlenecks or excessively long queues for queries or CAT Data extractions. The Plan Processor will provide the Operating Committee or its designee(s) details as to how the monitoring will be accomplished and the metrics that will be used to trigger alerts.

The Plan Processor will reasonably assist regulatory Staff (including those of Participants) with creating queries. Without limiting the manner in which Start Printed Page 30631regulatory Staff (including those of Participants) may submit queries, the Plan Processor will submit queries on behalf of regulatory Staff (including those of Participants) as reasonably requested. The Plan Processor will staff a CAT help desk, as described in Appendix D, CAT Help Desk, to provide technical expertise to assist regulatory Staff (including those of Participants) with questions about the content and structure of the CAT Data.

Request for Comment

59. What features of the CAT NMS Plan will facilitate the creation of enhanced surveillance systems? Are the minimum functional and technical requirements for the Plan Processor set forth in Appendix D consistent with the creation of enhanced surveillance systems? What, if any, additional requirements or details should be provided in the CAT NMS Plan to ensure that the Plan facilitates the creation of enhanced surveillance systems?

60. Under the CAT NMS Plan, will regulatory Staff have appropriate access to the Central Repository? Specifically, do Commenters believe that the online targeted query tool and user-defined direct queries and bulk extracts described in Sections 8.1 and 8.2 of Appendix D will enable regulatory Staff to use the data in the Central Repository to carry out their surveillance, analysis, and other regulatory functions? If not, why not and what should be added? Does the CAT NMS Plan provide sufficient detail to determine if regulators will have appropriate access? If not, what additional details should be provided?

61. Do Commenters believe that the provisions in Section 6.10(c)(ii) of the CAT NMS Plan regarding permission rights granted by the Plan Processor, encryption, and masking of PII are appropriate and reasonable? Would these provisions affect the ability of Commission or SRO regulatory Staff to access and use the data in the Central Repository? If so, what additional or different provisions would mitigate the impact on regulatory access to and use of the data?

62. Do Commenters believe that the query monitoring mechanism to be implemented by the Plan Processor, as described in Section 6.10(c)(iii) of the CAT NMS Plan, is appropriately designed to help enable regulators to carry out their regulatory functions? If not, what additional details or functionality should be provided? Will the provisions regarding Plan Processor assistance of regulatory Staff and submission of regulatory Staff queries (Sections 6.10(c)(iv)-(v) of the CAT NMS Plan) and the CAT user support functionality (as described in Section 10.2 of Appendix D) provide sufficient assistance to regulators in carrying out their regulatory functions?

I. Information Security Program

As set forth in Section 6.12, the Plan Processor is required to develop and maintain a comprehensive information security program for the Central Repository that contains, at a minimum, the specific requirements detailed in Appendix D, Data Security. The information security program must be approved and reviewed at least annually by the Operating Committee.

Request for Comment

63. Do Commenters believe the CAT NMS Plan should include a discussion of policies and procedures applicable to members of the Advisory Committee to ensure the security and confidentiality of the operation of the CAT (for example, requiring members of the Advisory Committee to enter into a non-disclosure agreement with the Company)? If so, what additional measures should be considered?

64. Do Commenters believe the CAT NMS Plan should detail the policies and procedures applicable to regulatory users of the CAT that would ensure the security and confidentiality of the CAT Data and the operation of the CAT? If so, what measures should be considered? Do Commenters have any views on how such policies and procedures should be enforced? Please explain.

(6) Financial Matters

Articles VII and VIII of the Plan address certain financial matters related to the Company. In particular, the Plan states that, subject to certain special allocations provided for in Section 8.2, any net profit or net loss will be allocated among the Participants equally. In addition, subject to Section 10.2, cash and property of the Company will not be distributed to the Participants unless the Operating Committee approves by Supermajority Vote a distribution after fully considering the reason that such distribution must or should be made to the Participants, including the circumstances contemplated under Section 8.3, Section 8.6, and Section 9.3. To the extent a distribution is made, all Participants will participate equally in any such distribution except as otherwise provided in Section 10.2.

Article XI addresses the funding of the Company. On an annual basis the Operating Committee will approve an operating budget for the Company. The budget will include the projected costs of the Company, including the costs of developing and operating the CAT System for the upcoming year, and the sources of all revenues to cover such costs, as well as the funding of any reserve that the Operating Committee reasonably deems appropriate for prudent operation of the Company.

Subject to certain funding principles set forth in Article XI, the Operating Committee will have discretion to establish funding for the Company, including: (1) Establishing fees that the Participants will pay; and (2) establishing fees for Industry Members that will be implemented by Participants. In establishing the funding of the Company, the Operating Committee will seek to: (1) Create transparent, predictable revenue streams for the Company that are aligned with the anticipated costs to build, operate and administer the CAT and the other costs of the Company; (2) establish an allocation of the Company's related costs among Participants and Industry Members that is consistent with the Exchange Act, taking into account the timeline for implementation of the CAT and distinctions in the securities trading operations of Participants and Industry Members and their relative impact upon Company resources and operations; (3) establish a tiered fee structure in which the fees charged to: (a) CAT Reporters that are Execution Venues, including ATSs, are based upon the level of market share, (b) Industry Members' non-ATS activities are based upon message traffic, and (c) the CAT Reporters with the most CAT-related activity (measured by market share and/or message traffic, as applicable) are generally comparable (where, for these comparability purposes, the tiered fee structure takes into consideration affiliations between or among CAT Reporters, whether Execution Venues and/or Industry Members); (4) provide for ease of billing and other administrative functions; (5) avoid any disincentives such as placing an inappropriate burden on competition and a reduction in market quality; and (6) build financial stability to support the Company as a going concern. The Participants will file with the SEC under Section 19(b) of the Exchange Act any such fees on Industry Members that the Operating Committee approves, and such fees will be labeled as “Consolidated Audit Trail Funding Fees.”

To fund the development and implementation of the CAT, the Company will time the imposition and collection of all fees on Participants and Industry Members in a manner Start Printed Page 30632reasonably related to the timing when the Company expects to incur such development and implementation costs. In determining fees for Participants and Industry Members, the Operating Committee shall take into account fees, costs and expenses (including legal and consulting fees and expenses) incurred by the Participants on behalf of the Company prior to the Effective Date in connection with the creation and implementation of the CAT, and such fees, costs and expenses shall be fairly and reasonably shared among the Participants and Industry Members. Consistent with Article XI, the Operating Committee will adopt policies, procedures, and practices regarding the budget and budgeting process, assignment of tiers, resolution of disputes, billing and collection of fees, and other related matters. As a part of its regular review of fees for the CAT, the Operating Committee will have the right to change the tier assigned to any particular Person pursuant to this Article XI.[78] Any such changes will be effective upon reasonable notice to such Person.

The Operating Committee will establish fixed fees to be payable by Execution Venues as follows. Each Execution Venue that executes transactions, or, in the case of a national securities association, has trades reported by its members to its trade reporting facility or facilities for reporting transactions effected otherwise than on an exchange, in NMS Stocks or OTC Equity Securities will pay a fixed fee depending on the market share of that Execution Venue in NMS Stocks and OTC Equity Securities. The Operating Committee will establish at least two and no more than five tiers of fixed fees, based on an Execution Venue's NMS Stocks and OTC Equity Securities market share. For these purposes, market share will be calculated by share volume. In addition, each Execution Venue that executes transactions in Listed Options will pay a fixed fee depending on the Listed Options market share of that Execution Venue. The Operating Committee will establish at least two and no more than five tiers of fixed fees, based on an Execution Venue's Listed Options market share, with market share calculated by contract volume. Changes to the number of tiers after approval of the Plan would require a Supermajority Vote of the Operating Committee and Commission approval under Section 19(b) of the Exchange Act, as would the establishment of the initial fee schedule and any changes to the fee schedule within the tier structure.[79]

The Operating Committee also will establish fixed fees payable by Industry Members, based on the message traffic generated by such Industry Member. The Operating Committee will establish at least five and no more than nine tiers of fixed fees, based on message traffic. For the avoidance of doubt, the fixed fees payable by Industry Members pursuant to this paragraph will, in addition to any other applicable message traffic, include message traffic generated by: (1) An ATS that does not execute orders that is sponsored by such Industry Member; and (2) routing orders to and from any ATS system sponsored by such Industry Member.

Furthermore, the Operating Committee may establish any other fees ancillary to the operation of the CAT that it reasonably determines appropriate, including: Fees for the late or inaccurate reporting of information to the CAT; fees for correcting submitted information; and fees based on access and use of the CAT for regulatory and oversight purposes (and not including any reporting obligations).[80]

The Company will make publicly available a schedule of effective fees and charges adopted pursuant to the Plan as in effect from time to time. Such schedule will be developed after the Plan Processor is selected. The Operating Committee will review the fee schedule on at least an annual basis and will make any changes to such fee schedule that it deems appropriate. The Operating Committee is authorized to review the fee schedule on a more regular basis, but will not make any changes on more than a semi-annual basis unless, pursuant to a Supermajority Vote, the Operating Committee concludes that such change is necessary for the adequate funding of the Company.

The Operating Committee will establish a system for the collection of fees authorized under the Plan. The Operating Committee may include such collection responsibility as a function of the Plan Processor or another administrator. Alternatively, the Operating Committee may use the facilities of a clearing agency registered under Section 17A of the Exchange Act to provide for the collection of such fees.

Each Participant will require each Industry Member to pay all applicable fees authorized under Article XI within thirty days after receipt of an invoice or other notice indicating payment is due (unless a longer payment period is otherwise indicated). If an Industry Member fails to pay any such fee when due, such Industry Member will pay interest on the outstanding balance from such due date until such fee is paid at a per annum rate equal to the lesser of: (1) The Prime Rate plus 300 basis points; or (2) the maximum rate permitted by applicable law. Each Participant will pay all applicable fees authorized under Article XI as required by Section 3.7(b).

Disputes with respect to fees the Company charges Participants pursuant to Article XI will be determined by the Operating Committee or a Subcommittee designated by the Operating Committee. Decisions by the Operating Committee on such matters shall be binding on Participants, without prejudice to the rights of any Participant to seek redress from the SEC pursuant to SEC Rule 608 or in any other appropriate forum. The Participants will adopt rules requiring that disputes with respect to fees charged to Industry Members pursuant to Article XI be determined by the Operating Committee or a Subcommittee. Decisions by the Operating Committee or Subcommittee on such matters will be binding on Industry Members, without prejudice to the rights of any Industry Member to seek redress from the SEC pursuant to SEC Rule 608 or in any other appropriate forum.

Request for Comment

65. Do Commenters believe that the provisions in the CAT NMS Plan regarding the funding and budget of the Company to operate the CAT (as described in Article XI) are appropriate and reasonable? Specifically, do Commenters believe that the tiered funding model described in Section 11.2(c) of the CAT NMS Plan and the fixed-tier funding model described in Start Printed Page 30633Section 11.3 of the CAT NMS Plan are appropriate and reasonable?

66. What are Commenters' views regarding the methodology in the CAT NMS Plan to establish and impose fees on Participants and the industry? Do Commenters believe that the fee system described in Sections 11.2 and 11.3 of the CAT NMS Plan will result in an equitable and fair allocation of CAT-related fees between Participants, other types of Execution Venues, and Industry Members? Will the fee system in the Plan, including consideration of the distinctions in securities trading operations, impose higher costs upon or result in any competitive advantage to some types of Execution Venues or Industry Members as opposed to others? If yes, are those differences in fees appropriate and reasonable? Will this proposed fee system create incentives to execute orders in certain Execution Venues over others? What alternative fee systems, if any, would be more appropriate?

67. Do Commenters believe that assessing fees based on market share and message traffic, as described in Sections 11.2 and 11.3 of the CAT NMS Plan, is appropriate and reasonable? Specifically, is it appropriate and reasonable to base Industry Member fees on message traffic and Execution Venue fees on market share? Will this method of calculating fees impose higher costs upon or result in any competitive advantage to some types of Execution Venues or Industry Members as opposed to others? What fee calculation method, if any, would be more appropriate?

68. Are the tier levels appropriate and reasonable? Why or why not? Is the number of tiers contemplated (2-5 for Execution Venues and 5-9 for Industry Members) appropriate and reasonable? Why or why not?

69. Do Commenters believe that giving the right to the Operating Committee to change the fee tier assigned to any particular Person as set forth in Section 11.1(d) of the CAT NMS Plan is appropriate and reasonable? If not, why not? What alternative process, if any, would be more appropriate?

70. Do Commenters believe that giving the right to the Operating Committee to change the fee tier assigned to any particular Person as set forth in Section 11.1(d) of the CAT NMS Plan conflicts with the tier structure of fees as set forth in Section 11.2(c) of the CAT NMS Plan, which will be based on the market share for Execution Venues, and message traffic for Industry Members? Why or why not?

71. Section 11.1(d) of the CAT NMS Plan also provides that any change to a Person's fee tier will be effective upon reasonable notice to such Person. Do Commenters believe that a notice to any such Person is necessary, given that the CAT NMS Plan provides that a Person will change fee tiers based on market share or message traffic, as applicable? Why or why not? What should constitute reasonable notice?

72. Do Commenters believe the Operating Committee's ability to establish additional fees for “access and use of the CAT for regulatory and oversight purposes” (as described in Section 11.3(c) of the CAT NMS Plan) is appropriate and reasonable? Would this provision affect the ability of regulatory Staff to access and use the data in the Central Repository? If so, what additional or different provisions would mitigate the impact upon regulatory access to and use of the data?

73. Do Commenters believe that the funding provisions in Section 11.1 of the CAT NMS Plan provide sufficient authority and guidance to the Operating Committee to establish and maintain such reserves as are reasonably deemed appropriate by the Operating Committee for the prudent operation of the Company? If not, why not?

74. Do Commenters believe that the provisions in the CAT NMS Plan regarding the collection of fees (Section 11.4 of the CAT NMS Plan) and fee disputes (Section 11.5 of the CAT NMS Plan) are appropriate and reasonable? If not, what alternatives do Commenters suggest?

75. Do Commenters believe the CAT NMS Plan provides sufficient detail regarding the proposed cost allocation among the Plan Processor and regulators with respect to hardware and software costs that may be required in order to use CAT Data? If not, what are the risks of not providing sufficient detail and what requirements should be set forth in the CAT NMS Plan? For example, since there will only be one Plan Processor, what are the risks of significant costs for regulators to the extent regulators will need to contract with the Plan Processor for additional computing resources, storage costs and data transfer costs?

76. Should the Operating Committee be required to consult the Advisory Committee when setting fees and performing regular reviews of fees? Please explain.

(7) Amendments

Section 12.3 of the CAT NMS Plan, which governs amendments to the Plan, states that, except with respect to the addition of new Participants (Section 3.3), the transfer of Company Interest (Section 3.4), the termination of a Participant's participation in the Plan (Section 3.7), amendments to the Selection Plan (Section 5.3 [sic]) and special allocations (Section 8.2), any change to the Plan requires a written amendment authorized by the affirmative vote of not less than two-thirds of all of the Participants, or with respect to Section 3.8 by the affirmative vote of all the Participants. Such proposed amendment must be approved by the Commission pursuant to Rule 608 or otherwise becomes effective under Rule 608. Notwithstanding the foregoing, to the extent that the SEC grants exemptive relief applicable to any provision of this Agreement, Participants and Industry Members will be entitled to comply with such provision pursuant to the terms of the exemptive relief so granted at the time such relief is granted irrespective of whether the LLC Agreement has been amended.

(8) Compliance Rule Applicable to Industry Members

Under Article III, each Participant agrees to comply with and enforce compliance by its Industry Members with the provisions of Rule 613 and the Plan, as applicable, to the Participant and its Industry Members. Accordingly, the Participants will endeavor to promulgate consistent rules (after taking into account circumstances and considerations that may impact Participants differently) requiring compliance by their respective Industry Members with the provisions of Rule 613 and the Plan.

(9) Plan Appendices

The Plan includes three appendices.[81] Appendix A provides the Consolidated Audit Trail National Market System Plan Request for Proposal, as issued February 26, 2013 and subsequently updated. In addition, Rule 613(a)(1) requires that the Plan discuss twelve considerations that explain the choices made by the Participants to meet the requirements specified in Rule 613 for the CAT. In accordance with this requirement, the Participants have addressed each of the twelve considerations in Appendix C. Finally, Appendix D describes the technical requirements for the Plan Processor.

b. Governing or Constituent Documents

Rule 608 requires copies of all governing or constituent documents relating to any person (other than a self-regulatory organization) authorized to implement or administer such plan on behalf of its sponsors. The Participants will submit to the Commission such Start Printed Page 30634documents related to the Plan Processor when the Plan Processor is selected.

c. Development and Implementation Phases

The terms of the Plan will be effective immediately upon approval of the Plan by the Commission (the “Effective Date”). The Plan sets forth each of the significant phases of development and implementation contemplated by the Plan, together with the projected date of completion of each phase. These include the following, each of which is subject to orders otherwise by the Commission:

Within two months after the Effective Date, the Participants will jointly select the winning Shortlisted Bid and the Plan Processor pursuant to the process set forth in Article V. Following the selection of the Initial Plan Processor, the Participants will file with the Commission a statement identifying the Plan Processor and including the information required by Rule 608;

Within four months after the Effective Date, each Participant will, and, through its Compliance Rule, will require its Industry Members to, synchronize its or their Business Clocks and certify to the Chief Compliance Officer (in the case of Participants) or the applicable Participant (in the case of Industry Members) that it has met this requirement;

Within six months after the Effective Date, the Participants must jointly provide to the SEC a document outlining how the Participants could incorporate into the CAT information with respect to equity securities that are not NMS Securities,[82] including Primary Market Transactions in securities that are not NMS Securities, which document will include details for each order and Reportable Event that may be required to be provided, which market participants may be required to provide the data, the implementation timeline, and a cost estimate;

Within one year after the Effective Date, each Participant must report Participant Data to the Central Repository;

Within fourteen months after the Effective Date, each Participant must implement a new or enhanced surveillance system(s);

Within two years after the Effective Date, each Participant must, through its Compliance Rule, require its Industry Members (other than Small Industry Members) to report Industry Member Data to the Central Repository; and

Within three years after the Effective Date, each Participant must, through its Compliance Rule, require its Small Industry Members to provide Industry Member Data to the Central Repository.

In addition, Industry Members and Participants will be required to participate in industry testing with the Central Repository on a schedule to be determined by the Operating Committee. Furthermore, Appendix C, A Plan to Eliminate Existing Rules and Systems (SEC Rule 613(a)(1)(ix)), and Appendix D, Data Types and Sources, set forth additional implementation details concerning the elimination of rules and systems.

The Chief Compliance Officer will appropriately document objective milestones to assess progress toward the implementation of this Agreement.

Request for Comment

77. Under the CAT NMS Plan, the SROs' rules would require that their members become CAT Reporters. What mechanism should there be to ensure that all CAT Reporters would participate in all pre-implementation activities, including connectivity and testing? Please explain.

78. Do Commenters believe that the CAT NMS Plan allows for sufficient pre-implementation testing support for CAT Reporters, including providing CAT Reporter feedback and accuracy reports? If not, what requirements should be added to the CAT NMS Plan?

79. Do Commenters believe that full implementation of the CAT would allow for the retirement of OATS? Please explain. Are any identified gaps with respect to OATS' data elements not addressed in the CAT NMS Plan? If yes, what are they?

80. The CAT NMS Plan provides for a single Plan Processor. As such, do Commenters believe there are adequate and appropriate incentives for continuous CAT innovation and cost reductions by the Plan Processor and the Participants? If not, explain and describe what additional incentives may be implemented in the CAT NMS Plan or related documentation. What competition might be encouraged to lead to further innovations and reduced costs for future CAT technologies?

81. Do Commenters believe that the proposed CAT NMS Plan sets forth acceptable milestones to measure the progress of developing and implementing the CAT? Why or why not?

82. The CAT NMS Plan sets forth significant phases of development and implementation and a projected timetable for each stage. Are these projections appropriate and reasonable? If not, why not, and what is a more appropriate and reasonable timeline?

83. The CAT NMS Plan's “Access to the Central Repository for Regulators” Section [83] sets forth a milestone requiring the publication of the finalized document detailing methods of access to the Central Repository one (1) month before Participants are required to begin reporting. Do Commenters believe this allows sufficient time for Participants to build applications to access the Central Repository when CAT goes live? If not, please explain and describe any related modifications to this Section.

d. Analysis of Impact on Competition [84]

The Plan states that it does not impose any burden on competition that is not necessary or appropriate in furtherance of the purposes of the Exchange Act. Section 8 of Appendix C, An Analysis of the Impact on Competition, Efficiency and Capital Formation, discusses the competition impact of the Plan in detail.[85] In addition, the Participants do not believe that the Plan introduces terms that are unreasonably discriminatory for the purposes of Section 11A(c)(1)(D) of the Exchange Act.[86] As noted in Section III.A.3.a, supra, the Participants are aware that potential conflicts of interest are raised because a Participant, or an Affiliate of a Participant, may be both submitting a Bid (or participating in a Bid (e.g., as a subcontractor)) and participating in the evaluation of Bids to select the Plan Processor. As described in Section III.A.3.a, the Selection Plan previously approved by the Commission and incorporated in the Plan includes multiple provisions designed to mitigate the potential impact of these conflicts by imposing restrictions on the Voting Senior Officers and by requiring the recusal of Bidding Participants for Start Printed Page 30635certain votes taken by the Selection Committee.

e. Written Understanding or Agreements Relating to Interpretation of, or Participation in, the Plan

The Participants have no written understandings or agreements relating to interpretations of, or participation in, the Plan other than those set forth in the Plan itself. For example, Section 4.3(a)(iii) states that the Operating Committee only may authorize the interpretation of the Plan by Majority Vote, Section 6.9(c)(i) addresses interpretations of the Technical Specifications, and Section 8.2 addresses the interpretation of Sections 8.1 and 8.2. In addition, Section 3.3 sets forth how any entity registered as a national securities exchange or national securities association under the Exchange Act may become a Participant.

f. Dispute Resolution

The Plan does not include a general provision addressing the method by which disputes arising in connection with the operation of the Plan will be resolved. The Plan does, however, provide the means for resolving disputes regarding the Participation Fee. Specifically, Article III states that, in the event that the Company and a prospective Participant do not agree on the amount of the Participation Fee, such amount will be subject to the review by the SEC pursuant to Section 11A(b)(5) of the Exchange Act.[87] In addition, the Plan addresses disputes with respect to fees charged to Participants and Industry Members pursuant to Article XI. Specifically, such disputes will be determined by the Operating Committee or a Subcommittee designated by the Operating Committee. Decisions by the Operating Committee or such designated Subcommittee on such matters will be binding on Participants and Industry Members, without prejudice to the rights of any Participant or Industry Member to seek redress from the SEC pursuant to Rule 608 or in any other appropriate forum.

* * * * *

This marks the end of the statement of purpose as set forth above and as substantially prepared and submitted by the SROs.

B. Summary of Additional CAT NMS Plan Provisions and Request for Comment

The Commission requests and encourages any interested person to comment generally on the proposed CAT NMS Plan. In addition to the specific requests for comment throughout the release, the Commission requests general comment on all aspects of the proposed CAT NMS Plan. The Commission encourages Commenters to provide information regarding the advantages and disadvantages of each aspect of the proposed CAT NMS Plan. The Commission invites Commenters to provide views and data as to the costs and benefits associated with the proposed CAT NMS Plan. The Commission also seeks comment regarding other matters that may have an effect on the proposed CAT NMS Plan.

1. Reporting Procedures

The CAT NMS Plan requires CAT Reporters to comply with specific reporting procedures when reporting CAT Data to the Central Repository.[88] Specifically, CAT Reporters must format CAT Data to comply with the format specifications approved by the Operating Committee.[89] CAT Reporters must record CAT Data contemporaneously with the applicable Reportable Event [90] and report such data to the Central Repository by 8:00 a.m. Eastern Time on the next Trading Day.[91] The obligation to report CAT Data applies to “each NMS Security registered or listed for trading on [a national securities] exchange or admitted to unlisted trading privileges on such exchange,” and “each Eligible Security for which transaction reports are required to be submitted to such [national securities] association.” [92] Further, the Participants are required to adopt Compliance Rules [93] that require Industry Members, subject to their SRO jurisdiction, to report CAT Data.[94]

The CAT NMS Plan requires specific data elements of CAT Data that must be recorded and reported to the Central Repository upon: (i) “original receipt or origination of an order,” [95] (ii) “routing of an order,” [96] and (iii) “receipt of an order that has been routed.” [97] Additionally, the CAT NMS Plan requires that a CAT Reporter must record and report data related to an “order [that] is modified or cancelled,” [98] and an “order [that] is executed, in whole or in part,” [99] as well Start Printed Page 30636as “other information or additional events as may be prescribed in Appendix D, Reporting and Linkage Requirements.” [100] The CAT NMS Plan also requires Industry Member CAT Reporters to report additional data elements for (i) an “order [that] is executed, in whole or in part,” [101] (ii) a “trade [that] is cancelled,” [102] or (iii) “original receipt or origination of an order.” [103] Further, each Participant shall, through Compliance Rules, require Industry Members to record and report to the Central Repository information or additional events as may be prescribed to accurately reflect the complete lifecycle of each Reportable Event.[104]

Request for Comment

84. Do Commenters believe that the data recording, reporting, and formatting procedures described in the CAT NMS Plan are appropriate and reasonable? Would providing additional details or requirements on these procedures enhance the quality of CAT Data reported to the Central Repository or the efficiency and cost-effectiveness of the CAT?

85. Do Commenters believe that the CAT NMS Plan, including Appendix D thereto, requires sufficient outreach, support, training, guidance and/or documentation to ensure that CAT Reporters are able to make data transmissions to the Central Repository that are complete and timely? If not, please explain. Describe what, if any, further requirements may be needed.

86. Do Commenters believe that the CAT NMS Plan should have a formal communications plan, other than the public Web site, to provide CAT Reporters the information they would need in order to set-up or configure their systems to record and report CAT Data to the Central Repository? If so, how, when, and by whom should such information be disseminated to CAT Reporters?

87. Do Commenters believe the Plan should require a specific method for entering CAT Data upon each CAT Reportable Event or upon updates and corrections to CAT Reportable Events? If so, what method? Please explain.

88. Do Commenters believe that the CAT NMS Plan should include a requirement that the Participants and the Plan Processor set forth a more detailed schedule, with milestones, for CAT Reporters to adhere to in setting-up or configuring their systems to become CAT Data reporting compliant? If so, please explain and describe what details and milestones should be included in the schedule (e.g., publication of Technical Specifications and announcements of CAT Reporter-facing technology changes).

2. Timeliness of Data Reporting

Section 6.3(b)(ii) of the CAT NMS Plan requires each Participant to report Participant Data to the Central Repository by 8:00 a.m. Eastern Time on the Trading Day following the day the Participant records such data.[105] Additionally, a Participant may voluntarily report such data prior to this deadline.[106] Section 6.4(b)(ii) states that each Participant shall, through its Compliance Rule, require its Industry Members to report Recorded Industry Member Data to the Central Repository by 8:00 a.m. Eastern Time on the Trading Day following the day the Industry member records such data, and Received Industry Member Data to the Central Repository by 8:00 a.m. Eastern Time on the Trading Day following the day the Industry Member receives such data.[107] Section 6.4(b)(ii) of the CAT NMS Plan also states that each Participant shall, through its Compliance Rule, permit its Industry Members to voluntarily report such data prior to the applicable 8:00 a.m. Eastern Time deadline.[108]

Request for Comment

89. The CAT NMS Plan requires that all Participants report Participant Data to the Central Repository by 8:00 a.m. Eastern Time on the Trading Day following the day the Participant records such data,[109] and that Industry Members report Recorded Industry Member Data to the Central Repository by 8:00 a.m. Eastern Time on the Trading Day following the day the Industry Member records such data [110] and Received Industry Member Data to the Central Repository by 8:00 a.m. Eastern Time on the Trading Day following the day the Industry Member receives such data.[111] Do Commenters believe that the CAT NMS Plan provides sufficient detail and information to determine whether the applicable 8:00 a.m. Eastern Time data reporting deadlines provided in the CAT NMS Plan are achievable? If not, why not?

90. Do Commenters believe that CAT Reporters will submit their reports at or about the same time? If all or most of the CAT Reporters would report at or just before 8:00 a.m. Eastern Time, what, if any, impact would there be on the necessary CAT infrastructure? Would this place an excessive burden on the Plan Processor? Do Commenters believe this would increase operational risk and/or increase costs? If so, please explain. Are there alternative reporting mechanisms that could reduce such risks?

91. The CAT NMS Plan provides that the Plan Processor must be able to handle two times the historical peak data to ensure that, if a significant number of CAT Reporters choose to submit data at or around the same time, the Plan Processor could handle the influx of data.[112] Do Commenters believe that the SROs' estimate of capacity is sufficient? If not, why not and what capacity should be required?

92. Do Commenters believe that the CAT NMS Plan allocates, or requires the Plan Processor to have, sufficient resources to work with the approximately 1,800 CAT Reporters that would, under the CAT NMS Plan, have to establish secure connections over which CAT Data will flow from their systems to the Central Repository? Do Commenters believe that the Plan Processor could implement the CAT Reporters' Central Repository connections nearly simultaneously without compromising testing periods and implementation timelines?

3. Uniform Format

The CAT NMS Plan does not mandate the format in which data must be reported to the Central Repository.[113] Appendix D states that the Plan Start Printed Page 30637Processor will determine the electronic format in which data must be reported, and that the format will be described in the Technical Specifications.[114] Appendix C specifies that CAT Reporters could be required to report data either in a uniform electronic format, or in a manner that would allow the Central Repository to convert the data to a uniform electronic format, for consolidation and storage.[115] Similarly, Sections 6.3(a) and 6.4(a) of the CAT NMS Plan require that CAT Reporters report data to the Central Repository in a format or formats specified by the Plan Processor, approved by the Operating Committee, and compliant with Rule 613.[116]

The CAT NMS Plan requires that data reported to the Central Repository be stored in an electronic standard format.[117] Specifically, Section 6.5(b)(i) of the CAT NMS Plan requires the Central Repository to retain the information collected pursuant to Rule 613(c)(7) and (e)(7) in a convenient and usable standard electronic data format that is directly available and searchable electronically without any manual intervention by the Plan Processor for a period of not less than six (6) years.[118] Such data must be linked when it is made available to the Participant's regulatory Staff and the Commission.[119]

Request for Comment

93. The CAT NMS Plan provides that CAT Reporters could be required to report data either in a uniform electronic format, or in a manner that would allow the Central Repository to convert the data to a uniform electronic format, for consolidation and storage. Do Commenters believe that if data is reported to the Central Repository in a non-uniform format, the proposed CAT NMS Plan includes sufficient requirements or details to determine whether the Central Repository could reliably and accurately convert such data to a uniform electronic format, for consolidation and storage, without affecting the quality of the data? If not, what additional requirements or details should be provided in the CAT NMS Plan prior to the Commission's approval of such plan?

94. If Commenters believe that it is not necessary to provide additional requirements or details, if any, in the CAT NMS Plan, what additional requirements or details should be included in the Technical Specifications to determine whether the Central Repository could reliably and accurately convert such data to a uniform electronic format, for consolidation and storage?

95. Do Commenters believe the CAT NMS Plan's lack of a mandated uniform format in which data must be reported to the Central Repository would affect the accuracy of CAT Data collected and maintained under the CAT? If so, how? Would reporting data in a uniform format result in greater accuracy? If so, please explain.

96. Do Commenters believe the CAT NMS Plan's lack of a mandated uniform format in which data must be reported to the Central Repository would affect the completeness of CAT Data collected and maintained under the CAT? If so, how? Would reporting data in a uniform format result in more complete CAT Data? If so, please explain.

97. Do Commenters believe the CAT NMS Plan's lack of a mandated uniform format in which data must be reported to the Central Repository would affect the accessibility of CAT Data collected and maintained under the CAT? If so, how? Would reporting data in a uniform format result in a different level of accessibility? If so, please explain.

98. Do Commenters believe allowing CAT Reporters to report data to the Central Repository in a non-uniform format would affect the timeliness of data collected and maintained under the CAT? How would the requirement that the Central Repository convert non-uniform data to a uniform format affect the timeliness of the data collected and maintained under the CAT? Would reporting data in a uniform format result in a different level of timeliness of data reporting? If so, please explain.

99. Do Commenters believe that allowing CAT Reporters to report data to the Central Repository in a non-uniform format is more efficient and cost-effective than requiring data to be reported in a uniform format? Would allowing CAT Reporters to report data to the Central Repository in a non-uniform format merely transfer the costs from individual CAT Reporters to the Central Repository? Would centralization of the costs of converting data to a uniform format reduce costs? Please explain.

100. Do Commenters believe that allowing CAT Reporters to report data to the Central Repository in a non-uniform format would affect the security and confidentiality of CAT Data? If so, how? Would reporting data in a uniform format create different security or confidentiality concerns? If so, please explain.

4. Clock Synchronization

Pursuant to Section 6.8(a) of the CAT NMS Plan, each Participant and Industry Member, (through the Compliance Rule adopted by every Participant), must synchronize its Business Clocks,[120] at a minimum, to within 50 milliseconds of the time maintained by the NIST, consistent with industry standards.[121] The Participants believe that a 50-millisecond clock offset tolerance represents the current industry clock synchronization standard.[122] Industry Members must maintain such a clock synchronization standard; certify periodically (according to a schedule to be defined by the Operating Committee) that their Business Clocks meet the requirements of the Compliance Rule; and report to the Plan Processor and the Participant any violation of the Compliance Rule pursuant to the thresholds set by the Operating Committee.[123] Pursuant to Section 6.8(c) of the CAT NMS Plan, the Chief Compliance Officer, in conjunction with the Participants and other appropriate Industry Member advisory groups, annually must evaluate and make a recommendation to the Operating Committee as to whether the industry standard has evolved such that the clock synchronization standard should be tightened.[124]

Appendix C describes the process by which Participants determined that a 50-millisecond clock offset tolerance was consistent with industry standards.[125] To that end, the Participants and Industry Members reviewed their respective internal clock synchronization technology practices,[126] and reviewed the results of The Financial Information Forum (“FIF”) Clock Offset Survey, a clock synchronization survey conducted by FIF.[127] In light of their internal reviews Start Printed Page 30638and the FIF Clock Offset Survey, the Participants concluded that a clock offset tolerance of 50 milliseconds represented an aggressive but achievable standard.[128]

Appendix C discusses mechanisms to ensure compliance with the 50-millisecond clock offset tolerance.[129] The Participants anticipate that they and Industry Members will adopt policies and procedures to verify the required clock synchronization each trading day before the market opens, as well as periodically throughout the trading day.[130] The Participants also anticipate that they and Industry Members will document their clock synchronization procedures and maintain a log recording the time of each clock synchronization performed, and the result of such synchronization, specifically identifying any synchronization revealing any clock offset between the Participant's or Industry Member's Business Clock and the time maintained by the NIST exceeding 50 milliseconds.[131] The CAT NMS Plan states that once both large and small broker-dealers begin reporting to the Central Repository, and as clock synchronization technology matures further, the Participants will assess, in accordance with Rule 613, tightening CAT's clock synchronization standards to reflect changes in industry standards.[132]

Request for Comment [133]

101. Do Commenters believe that a clock offset tolerance of 50 milliseconds is appropriate and reasonable, in light of the increase in the speed of trading over the last several years? If not, what would an appropriate and reasonable standard be?

102. What are current clock synchronization practices? Do Commenters believe that current industry clock synchronization practices are sufficiently rigorous in light of current trading speeds? If not, please explain.

103. Would a smaller clock offset tolerance be reasonably achievable? If so, please identify such tolerance and any incremental additional costs that achieving that smaller clock offset tolerance might entail.

104. If Commenters believe that, in light of the current speed of trading, the clock offset tolerance should be more rigorous, what, if any transition period would be reasonable and appropriate for reducing the clock offset tolerance standards of CAT?

105. What is the range of clock synchronization practices across the industry?

106. Do Commenters believe the range of clock synchronization practices should be considered when considering the appropriate clock synchronization standard?

107. If an SRO or broker-dealer can or does synchronize its clocks to an offset tolerance more rigorous than 50 milliseconds, do Commenters believe that that SRO or broker-dealer should be required to synchronize its clocks to that standard? Why or why not? If so, how, if at all, would that affect sequencing of Reportable Events in CAT?

108. Do Commenters believe that certain categories of market participants should be held to a smaller or larger clock offset tolerance? If so, what category of market participant and why? How, if at all, would that affect sequencing of Reportable Events in CAT?

109. Do Commenters believe a 50-millisecond clock offset tolerance would materially impair the quality and accuracy of CAT Data? If so, please explain. Would such a standard undermine the ability of the Central Repository to accurately and reliably link order and sequence event data across venues, or combine it with other sources of trade and order data? If so, please explain. Is there a benefit from applying the same uniform clock offset tolerance to all market participants, or would a variable clock offset tolerance approach be preferable? For example, should a high-volume market participant trading on multiple exchanges and ATSs have the same clock offset tolerance as a small retail-focused regional office? Would the benefits of a smaller clock offset tolerance for service bureaus that report but do not record order events be lower than for other types of CAT Reporters? Would the benefits of a smaller clock offset tolerance for clearing brokers that record and report information available only after an execution be lower than for other types of CAT Reporters? Please explain.

110. The CAT NMS Plan provides that as time synchronization standards evolve, the Participants would assess, on an annual basis, the ability to tighten the clock synchronization standards for CAT to reflect changes in industry standards. Do Commenters believe that this would establish an appropriately rigorous process and schedule for the Participants to evaluate whether the clock synchronization standard should be tightened? Are there any other factors that should affect when and how to tighten the clock synchronization standard?

111. Do Commenters believe the CAT NMS Plan provides adequate enforcement provisions to ensure CAT Reporters synchronize Business Clocks within the proposed 50-millisecond clock offset tolerance? If not, what additional enforcement provisions should the CAT NMS Plan provide?

112. Do Commenters believe that sufficient detail has been provided in the CAT NMS Plan concerning the reasonable justification or exceptional circumstances that would permit a pattern or practice of reporting events outside of the specified clock synchronization standard?

113. The CAT NMS Plan generally requires CAT Reporters to record and report Reportable Events with a time stamp of at least to the millisecond but provides for a 50 millisecond clock offset tolerance. Do Commenters believe the time stamp granularity requirement and the clock offset tolerance should correspond more closely or even identically? If so, please explain, including what such time stamp granularity requirement and clock offset tolerance should be.

5. Time Stamp Granularity

The CAT NMS Plan requires CAT Reporters to record and report the time of each Reportable Event using time stamps reflecting current industry standards, which should be at least to the millisecond, except with respect to events that involve non-electronic communication of information (“Manual Order Events”).[134] Furthermore, the Plan requires Start Printed Page 30639Participants to adopt rules requiring that CAT Reporters that use time stamps in increments finer than milliseconds use those finer increments when reporting to the Central Repository.[135] For Manual Order Events, the Participants determined that time stamp granularity at the level of a millisecond is not practical.[136] Accordingly, the CAT NMS Plan provides that each Participant and Industry Member shall be permitted to record and report Manual Order Events to the Central Repository in increments up to and including one second, provided that Participants and Industry Members shall be required to record and report the time when a Manual Order Event has been captured electronically in an order handling and execution system of such Participant or Industry Member (“Electronic Capture Time”) in milliseconds.[137]

Request for Comment [138]

114. Are the time stamp granularity standards for both electronic and non-electronic reportable events appropriate and reasonable? If not, why not and what would be a better alternative?

115. Do Commenters believe the CAT NMS Plan's time stamp granularity requirement is precise enough to reliably and accurately sequence Reportable Events? If not, why not? Is there a better time stamp approach and what should the requirement(s) be?

116. To what degree does the millisecond or less time stamp granularity requirement enable or prevent regulators' ability to sequence events that occur in different execution venues? Please explain.

117. Are certain CAT Reportable Events more time-sensitive than other CAT Reportable Events? If so, what events are more time-sensitive and why? What systems are more likely to process these more sensitive events and to what level of time stamp granularity are such events processed? Where are those systems located (i.e., within broker-dealers, service bureaus, execution venues)? Please explain.

118. What market participant systems, if any, should have less granular time stamp requirements? Why? What time stamp granularity standard should these systems have? Why?

119. What market participant systems, if any, should have more granular time stamp requirements? Why? What time stamp granularity standard should these systems have? Why?

120. The Commission granted an exemption from Rule 613 in order to allow the alternative of permitting CAT Reporters to report Manual Order Events with a time stamp granularity of one second, in lieu of the Rule 613 requirement that the CAT NMS Plan require CAT Reporters to report with a time stamp granularity of one millisecond, to be included in the CAT NMS Plan and subject to notice and comment.[139] Do Commenters believe that the CAT NMS Plan's one-second time stamp granularity standard for Manual Order Events is appropriate and reasonable? If not, why not? Would a more granular time stamp requirement for Manual Order Events be feasible?

121. What alternative approach with respect to Manual Order Events may be preferable? Could the provisions in the CAT NMS Plan related to Manual Order Events be more narrowly tailored to, for example, only apply to CAT Reporters who are unable to record and report Manual Order Events with a time stamp granularity of one millisecond?

122. The SROs note in the Exemption Request that recording and reporting Manual Order Events with a time stamp granularity of at least one second would result in little additional benefit, and, in fact, could result in adverse consequences such as creating a false sense of precision for data that is inherently imprecise, while imposing additional costs on CAT Reporters. Do Commenters agree? Why or why not?

123. If Manual Order Events are recorded and reported with a time stamp granularity of one second, what, if any, challenges do Commenters believe would arise with respect to the sequencing of order events (for the same order) and orders (for a series of orders)? Would the one millisecond standard originally provided for in Rule 613 be preferable? Please explain.

124. Do Commenters believe the CAT NMS Plan's requirement that time stamp granularity (other than for Manual Order Events) should be to at least the millisecond is granular enough in light of current practices? If not, why not?

125. The CAT NMS Plan provides that as time stamp standards evolve, the Participants would assess, on an annual basis, the ability to require more precise time stamp granularity standards for CAT to reflect changes in industry standards. Do Commenters believe that this establishes an appropriately rigorous schedule for the Participants to evaluate whether time stamp granularity requirements could potentially be set to finer increments? Are there any other factors that should affect when and how the requirements for time stamp granularity increments could be made more precise?

126. Do Commenters believe the CAT NMS Plan provides adequate enforcement provisions to ensure CAT Reporters time stamp Reportable Events to a granularity of one millisecond (and for Manual Order Events to a granularity of one second)? If not, what additional enforcement provisions should the CAT NMS Plan provide?

127. Do Commenters believe that the CAT NMS Plan's requirement that Participants and Industry Members synchronize Business Clocks used solely for Manual Order Events to within one second of the time maintained by the NIST is appropriate and reasonable? Would a tighter clock synchronization standard for Business Clocks used solely for Manual Order Events be feasible?

6. CAT-Reporter-ID

Sections 6.3 and 6.4 of the CAT NMS Plan require CAT Reporters to record and report to the Central Repository an SRO-Assigned Market Participant Identifier [140] for orders and certain Reportable Events to be used by the Central Repository to assign a unique CAT-Reporter-ID [141] for purposes of identifying each CAT Reporter associated with an order or Reportable Event (the “Existing Identifier Approach”).[142] The CAT NMS Plan Start Printed Page 30640requires the reporting of SRO-Assigned Market Participant Identifiers of: The Industry Member receiving or originating an order; [143] the Industry Member or Participant from which (and to which) an order is being routed; [144] the Industry Member or Participant receiving (and routing) a routed order; [145] the Industry Member or Participant executing an order, if an order is executed; [146] and the clearing broker or prime broker, if applicable, if an order is executed.[147] An Industry Member would report to the Central Repository its existing SRO-Assigned Market Participant Identifier used by the relevant SRO specifically for transactions occurring at that SRO.[148] Similarly, an exchange reporting CAT Reporter information would report data using the SRO-Assigned Market Participant Identifier used by the Industry Member on that exchange or its systems.[149] Over-the-counter (“OTC”) orders and Reportable Events would be reported with an Industry Member's FINRA SRO-Assigned Market Participant Identifier.[150]

The CAT NMS Plan requires the Plan Processor to develop and maintain the mechanism to assign (and to change, if necessary) CAT-Reporter-IDs.[151] For the Central Repository to link the SRO-Assigned Participant Identifier to the CAT-Reporter-ID, each SRO must submit, on a daily basis, all SRO-Assigned Market Participant Identifiers used by its Industry Members (or itself), as well as information to identify the corresponding market participant (for example, a CRD number or Legal Entity Identifier (“LEI”)) to the Central Repository.[152] Additionally, each Industry Member shall be required to submit to the Central Repository information sufficient to identify such Industry Member (e.g., CRD number or LEI, as noted above).[153] The Plan Processor would use the SRO-Assigned Market Participant Identifiers and identifying information (i.e., CRD number or LEI) to assign a CAT-Reporter-ID to each Industry Member and SRO for internal use across all data within the Central Repository.[154] The Plan Processor would create and maintain a database in the Central Repository that would map the SRO-Assigned Market Participant Identifiers to the appropriate CAT-Reporter-ID.[155]

The consolidated audit trail must be able to capture, store, and maintain current and historical SRO-Assigned Market Participant Identifiers.[156] The SRO-Assigned Market Participant Identifier must also be included on the Plan Processor's acknowledgment of its receipt of data files from a CAT Reporter or Data Submitter,[157] on daily statistics provided by the Plan Processor after the Central Repository has processed data,[158] and on a secure Web site that the Plan Processor would maintain that would contain each CAT Reporter's daily reporting statistics.[159] In addition, data validations by the Plan Processor must include confirmation of a valid SRO-Assigned Market Participant Identifier.[160]

Request for Comment

128. The Commission granted an exemption from Rule 613 in order to allow the Existing Identifier Approach to be included in the CAT NMS Plan and subject to notice and comment. The Existing Identifier Approach would allow a CAT Reporter to report an existing SRO-Assigned Market Participant Identifier in lieu of Rule 613's requirement that a CAT Reporter must report a universal CAT-Reporter-ID.[161] Do Commenters believe that allowing the Existing Identifier Approach would be more efficient and cost-effective than the Rule 613 approach of requiring a CAT-Reporter-ID to be reported for each order and reportable event in accordance with Rule 613(c)(7)? [162] Why or why not? Or do Commenters believe that the Rule 613 approach is preferable? Why or why not? Would implementation of the Existing Identifier Approach merely transfer costs from CAT Reporters to the Central Repository?

129. Do Commenters believe that the Existing Identifier Approach would affect the accuracy of CAT Data? Would the Rule 613 approach result in greater accuracy? If so, please explain.

130. Do Commenters believe that the CAT NMS Plan's proposed Existing Identifier Approach would affect the accessibility of CAT Data? If so, how? Would the Rule 613 approach result in a different level of accessibility? If so, please explain.

131. Do Commenters believe that the CAT NMS Plan's proposed Existing Identifier Approach would affect the timeliness of CAT Data? If so, how? Would the Rule 613 approach result in greater timeliness? If so, please explain.

132. Do Commenters believe the Existing Identifier Approach would affect the security and confidentiality of CAT Data? If so, how? Would the Rule 613 approach result in a different level of security and confidentiality? If so, please explain.

133. What challenges or risks do Commenters believe the Plan Processor would face in linking all SRO-Assigned Market Participant Identifiers to the appropriate CAT-Reporter-IDs? What, if anything, could be done to mitigate those challenges and risks?

134. The CAT NMS Plan does not require that an Industry Member provide its LEI to the Plan Processor as part of the identifying information used to assign a CAT-Reporter-ID. The CAT NMS Plan permits an Industry Member to report its CRD number in lieu of its LEI for this purpose. Do Commenters believe that the CAT NMS Plan should mandate that Industry Members provide their LEIs, along with their SRO-Assigned Market Participant Identifiers, to the Plan Processor for purposes of developing a unique CAT-Reporter-ID? Why or why not?

7. Customer-ID

a. Customer Information Approach

Rule 613(c)(7)(i)(A) requires that for the original receipt or origination of an order, a CAT Reporter report the “Customer-ID(s) for each Customer.” [163] “Customer-ID” is defined in Rule 613(j)(5) to mean “with respect to a customer, a code that uniquely and Start Printed Page 30641consistently identifies such customer for purposes of providing data to the Central Repository.” [164] Rule 613(c)(8) requires that “[a]ll plan sponsors and their members shall use the same Customer-ID and CAT-Reporter-ID for each customer and broker-dealer.” [165]

In Appendix C, the Participants describe the “Customer Information Approach,” [166] an alternative approach to the requirement that a broker-dealer report a Customer-ID for every Customer upon original receipt or origination of an order.[167] Under the Customer Information Approach, the CAT NMS Plan would require each broker-dealer to assign a unique Firm Designated ID to each Customer.[168] As the Firm Designated ID, broker-dealers would be permitted to use an account number or any other identifier defined by the firm, provided each identifier is unique across the firm for each business date (i.e., a single firm may not have multiple separate customers with the same identifier on any given date).[169] According to the CAT NMS Plan, broker-dealers would submit an initial set of Customer information to the Central Repository, including, as applicable, the Firm Designated ID, the Customer's name, address, date of birth, individual tax payer identifier number (“ITIN”)/social security number (“SSN”), individual's role in the account (e.g., primary holder, joint holder, guardian, trustee, person with power of attorney) and LEI,[170] and/or Large Trader ID (“LTID”), if applicable, which would be updated as set forth in the CAT NMS Plan.[171]

Under the Customer Information Approach, broker-dealers would be required to report only the Firm Designated ID for each new order submitted to the Central Repository, rather than the “Customer-ID” as defined by Rule 613(c)(j)(5) and as required by Rule 613(c)(7)(i)(A), and the Plan Processor would associate specific Customers and their Customer-IDs with individual order events based on the reported Firm Designated IDs.[172] Within the Central Repository, each Customer would be uniquely identified by identifiers or a combination of identifiers such as an ITIN/SSN, date of birth, and, as applicable, LEI and LTID.[173] The Plan Processor would be required to use these unique identifiers to map orders to specific Customers across all broker-dealers.[174] To ensure information identifying a Customer is updated, broker-dealers would be required to submit to the Central Repository daily updates for reactivated accounts, newly established or revised Firm Designated IDs, or associated reportable Customer information.[175]

Appendix C provides additional requirements that the Plan Processor must meet under the Customer Information Approach.[176] The Plan Processor must maintain information of sufficient detail to uniquely and consistently identify each Customer across all CAT Reporters, and associated accounts from each CAT Reporter, and must document and publish, with the approval of the Operating Committee, the minimum list of attributes to be captured to maintain this association.[177] In addition, the Plan Processor must maintain valid Customer and Customer Account Information [178] for each trading day and provide a method for Participants and the Commission to easily obtain historical changes to that information (e.g., name changes, address changes).[179] The Plan Processor also must design and implement a robust data validation process for submitted Firm Designated IDs, Customer Account Information and Customer Identifying Information, and be able to link accounts that move from one CAT Reporter to another due to mergers and acquisitions, divestitures, and other events.[180] Under the Customer Information Approach, broker-dealers will initially submit full account lists for all active accounts to the Plan Processor and subsequently submit updates and changes on a daily basis.[181] Finally, the Plan Processor must have a process to periodically receive full account lists to ensure the completeness and accuracy of the account database.[182]

b. Account Effective Date vs. Account Open Date

Rule 613(c)(7)(viii)(B) requires broker-dealers to report to the Central Repository “Customer Account Information” upon the original receipt or origination of an order.[183] The CAT Start Printed Page 30642NMS Plan defines “Customer Account Information” to include, in part, the Customer's account number, account type, customer type, date account opened and LTID (if applicable).[184] The Plan, however, provides that in two limited circumstances, a broker-dealer could report the “Account Effective Date” in lieu of the date an account was opened.[185] The first circumstance is where a relationship identifier—rather than an actual parent account—has been established for an institutional Customer relationship.[186] In this case, no account open date is available for the institutional Customer parent relationship because there is no parent account, and for the same reason, there is no account number or account type available.[187] Thus, the Plan provides that in this circumstance, a broker-dealer could report the “Account Effective Date” of the relationship in lieu of an account open date.[188] Further, the Plan provides that where such an institutional Customer relationship was established before the broker-dealer's obligation to report audit trail data is required, the “Account Effective Date” would be either (i) the date the broker-dealer established the relationship identifier, or (ii) the date when trading began (i.e., the date the first order is received) using the relevant relationship identifier, and if both dates are available and differ, the earlier date.[189] Where such relationships are established after the broker-dealer's obligation to report audit trail data is required, the “Account Effective Date” would be the date the broker-dealer established the relationship identifier and would be no later than the date the first order was received.[190] Regardless of when the relationship was established for such institutional Customers, the Plan provides that broker-dealers may report the relationship identifier in place of Rule 613(c)(7)(viii)(B)'s requirement to report the “account number,” and report “relationship” in place of “account type.” [191]

The second circumstance where a broker-dealer may report the “Account Effective Date” rather than the date an account was opened as required in Rule 613(c)(7)(viii)(B) is when particular legacy system data issues prevent a broker-dealer from providing an account open date for any type of account (i.e., institutional, proprietary or retail) that was established before CAT's implementation.[192] According to the Plan, these legacy system data issues may arise because:

(1) A broker-dealer has switched back office providers or clearing firms and the new back office/clearing firm system identifies the account open date as the date the account was opened on the new system;

(2) A broker-dealer is acquired and the account open date becomes the date that an account was opened on the post-merger back office/clearing firm system;

(3) Certain broker-dealers maintain multiple dates associated with accounts in their systems and do not designate in a consistent manner which date constitutes the account open date, as the parameters of each date are determined by the individual broker-dealer; or

(4) No account open date exists for a proprietary account of a broker-dealer.[193]

Thus, when legacy systems data issues arise due to one of the four reasons above and no account open date is available, the Plan provides that broker-dealers would be permitted to report an “Account Effective Date” in lieu of an account open date.[194] When the legacy systems data issues and lack of account open date are attributable to above reasons (1) or (2), the “Account Effective Date” would be the date the account was established, either directly or via a system transfer, at the relevant broker-dealer.[195] When the legacy systems data issues and lack of account open date are attributable to above reason (3), the “Account Effective Date” would be the earliest available date.[196] When the legacy systems data issues and lack of account open date are attributable to above reason (4), the “Account Effective Date” would be (i) the date established for the proprietary account in the broker-dealer or its system(s), or (ii) the date when proprietary trading began in the account, i.e., the date on which the first orders were submitted from the account.[197]

c. Modification/Cancellation

Rule 613(c)(7)(iv)(F) requires that “[t]he CAT-Reporter-ID of the broker-dealer or Customer-ID of the person giving the modification or cancellation instruction” be reported to the Central Repository.[198] Because the Customer Information Approach no longer requires that a Customer-ID be reported upon original receipt or origination of an order, and because reporting the Customer-ID of the specific person that gave the modification or cancellation instruction would result in an inconsistent level of information regarding the identity of the person giving the modification or cancellation instruction versus the identity of the Customer that originally received or originated an order, Section 6.3(d)(iv)(F) of the CAT NMS Plan modifies the requirement in Rule 613 and instead requires CAT Reporters to report whether the modification or cancellation instruction was “given by the Customer or was initiated by the Industry Member or Participant.” [199]

Request for Comment

135. The Commission granted an exemption from Rule 613 in order to allow the Customer Information Approach to be included in the CAT NMS Plan and subject to notice and comment. The Customer Information Approach would require each broker-dealer to assign a unique Firm Designated ID to each trading account and to submit an initial set of information identifying the Customer to the Central Repository, in lieu of Rule 613's requirement that a CAT Reporter must report a Customer-ID for each Customer upon the original receipt or Start Printed Page 30643origination of an order. Do Commenters believe that allowing broker-dealers to report a Firm Designated ID to the Central Repository is more efficient and cost-effective than the Rule 613 approach of requiring broker-dealers to report a unique Customer-ID upon original receipt or origination of an order? Would allowing CAT Reporters to report a Firm Designated ID to the Central Repository merely transfer the costs from individual broker-dealers to the Central Repository? Or do Commenters believe that the Rule 613 approach is preferable? Why or why not?

136. If broker-dealers are permitted to report a Firm Designated ID, do Commenters believe the proposed CAT NMS Plan includes sufficiently detailed requirements to determine whether the Plan Processor could use the Firm Designated ID to identify a Customer?

137. Do Commenters believe the CAT NMS Plan's proposal to permit reporting a Firm Designated ID would affect the accuracy of CAT Data collected and maintained under the CAT compared to the Rule 613 approach that requires a unique Customer-ID? If so, how? Would permitting reporting a Firm Designated ID result in more complete CAT Data? If so, please explain.

138. Do Commenters believe the CAT NMS Plan's proposal to permit reporting a Firm Designated ID would affect the accessibility of CAT Data collected and maintained under the CAT compared to the Rule 613 approach? If so, how? Would permitting reporting a Firm Designated ID result in CAT Data being more accessible? If so, please explain.

139. Do Commenters believe allowing broker-dealers to report a Firm Designated ID to the Central Repository would affect the timeliness of data collected and maintained under the CAT compared to the Rule 613 approach? Would permitting reporting a Firm Designated ID result in more timely CAT Data? If so, please explain.

140. Do Commenters believe there are any increased risks related to allowing a broker-dealer to report a Firm Designated ID rather than a unique Customer-ID to the Central Repository? How difficult would it be for the Central Repository to utilize a Firm Designated ID for each account?

141. Do Commenters believe that the CAT NMS Plan has provided sufficient information to determine whether the Central Repository could use a Firm Designated ID to efficiently, reliably and accurately link orders and Reportable Events to a Customer?

142. Do Commenters believe that the CAT NMS Plan includes sufficient safeguards or policies to assure that the same Firm Designated ID would not be used for multiple Customers?

143. The CAT NMS Plan does not require that a broker-dealer provide an LEI to the Plan Processor as part of the identifying information used to assign a Customer-ID at the Central Repository. The CAT NMS Plan provides that a broker-dealer must report its LEI, if available, but allows a broker-dealer to report another comparable common entity identifier, if an LEI is not available. Do Commenters believe that the CAT NMS Plan should mandate that broker-dealers provide an LEI as part of the information used by the Plan Processor to uniquely identify Customers? Why or why not?

144. Do Commenters believe that reporting the Firm Designated ID, rather than a unique Customer-ID, would affect the security and confidentiality of CAT Data? If so, how? Would permitting reporting a Firm Designated ID result in a different level of security and confidentiality of CAT Data? If so, please explain.

145. The CAT NMS Plan provides that an initial set of Customer Account Information and Customer Identifying Information would be reported to the Central Repository by broker-dealers upon the commencement of reporting audit trail data to the Central Repository by that broker-dealer, and that such Customer Identifying Information would be updated as set forth in the CAT NMS Plan. Do Commenters believe that the approach for reporting an initial set of Customer Account Information and Customer Identifying Information and updates to such information thereafter as set forth in the CAT NMS Plan would affect the quality, accuracy, completeness, accessibility or timeliness of the data? If so, what additional requirements or details should be provided in the CAT NMS Plan?

146. Do Commenters believe that allowing broker-dealers to report an initial set of Customer Account Information and Customer Identifying Information and updates to such information thereafter is more efficient and cost-effective than the Rule 613 approach for identifying Customers under Rule 613? Or do Commenters believe that the Rule 613 approach is preferable? Why or why not?

147. Do Commenters believe there are any increased risks as a result of allowing a broker-dealer to report an initial set of Customer Account Information and Customer Identifying Information and updates to such information thereafter to be reported to the Central Repository? How difficult would it be for the Central Repository to ingest the Customer Account Information and Customer Identifying information, and any updates thereafter?

148. Do Commenters believe that the CAT NMS Plan provides sufficient information to determine whether the Central Repository could use the initial set of Customer Account Information and Customer Identifying Information and updates to such information thereafter to efficiently, reliably and accurately link orders and Reportable Events to a Customer?

149. Do Commenters believe that reporting an initial set of Customer Account Information and Customer Identifying Information and updates to such information thereafter would affect the security and confidentiality of CAT Data? If so, how? Would reporting an initial set of Customer Account Information and Customer Identifying Information and updates to such information result in a different level of security and confidentiality? If so, please explain.

150. As part of the Customer Identifying Information reported to the Central Repository, the CAT NMS Plan requires a broker-dealer to report PII such as the Customer's name, address, date of birth, and ITIN/SSN. Do Commenters believe there is data that could be reported by broker-dealers and used by the Central Repository to identify Customers that is not PII? What types of data would this be? If data other than PII is used to identify a Customer, do Commenters believe that such data would be sufficiently unique to ensure that Customers can be accurately identified by the Central Repository?

151. If data other than PII is used by the Central Repository to identify a Customer, would the use of such data affect the quality or completeness of the CAT audit trail, as compared to the use of PII to identify a Customer?

152. Do Commenters believe that if broker-dealers reported data other than PII to identify Customers, the accessibility and timeliness of the data collected and maintained under the CAT would be affected? If the data would be affected, in what way(s)?

153. Would relying on data other than PII to identify a Customer be a more efficient and cost-effective way to identify Customers, as compared to relying on PII to identify a Customer?

154. Do Commenters believe that there would be increased risks to the reliability of the CAT audit trail data if broker-dealers were required to identify a Customer with data that does not include PII?

155. If broker-dealers report data other than PII to identify Customers, do Commenters believe that the Central Repository could efficiently, reliably Start Printed Page 30644and accurately link orders and Reportable Events to a Customer?

156. Do Commenters believe that the proposed CAT NMS Plan provides sufficient information to determine when broker-dealers would report the “Account Effective Date”, rather than the date the Customer's account was opened as required by Rule 613? Is there any ambiguity in the circumstances under which a broker-dealer would report an “Account Effective Date” rather than the date a Customer's account was opened?

157. Do Commenters believe reporting of the “Account Effective Date” rather than the account open date for a Customer's account under the Rule 613 approach would affect the quality, accuracy, completeness, accessibility or timeliness of the CAT data? If it does, what additional requirements or details should be provided in the CAT NMS Plan prior to the Commission's approval of such Plan? Or do Commenters believe that the Rule 613 approach is preferable? Why or why not?

158. Do Commenters believe that reporting the “Account Effective Date” would provide sufficient information to the Central Repository to facilitate the ability of the Plan Processor to link a Customer's account with the Customer?

159. Do Commenters believe that allowing the reporting of the “Account Effective Date” would be more efficient and cost-effective than requiring the Rule 613 approach of reporting of a Customer's account open date? Or do Commenters believe that the Rule 613 approach is preferable? Why or why not? Would allowing CAT Reporters to report the “Account Effective Date” rather than the date a Customer's account was opened merely transfer the costs from individual CAT Reporters to the Central Repository?

160. Do Commenters agree that the proposed approach for reporting the “Account Effective Date,” which differs depending on whether the account was established before or after the commencement of reporting audit trail data to the Central Repository as set forth in the CAT NMS Plan, is a reasonable approach? Why or why not?

161. The Commission granted an exemption from Rule 613 to permit the alternative of allowing CAT Reporters to report whether the modification or cancellation of an order was given by a Customer, or initiated by a broker-dealer or exchange, in lieu of requiring the reporting of the Customer-ID of the person giving the modification or cancellation instruction, to be included in the CAT NMS Plan and subject to notice and comment. To what extent does the approach permitted by the exemption affect the completeness of the CAT? Would the information lost under the approach permitted by the exemption affect investigations or surveillances? If so, how?

8. Order Allocation Information

Section 6.4(d)(ii)(A)(1) of the CAT NMS Plan provides that each Participant through its Compliance Rule must require that Industry Members record and report to the Central Repository an Allocation Report that includes the Firm Designated ID when an execution is allocated in whole or part.[200] The CAT NMS Plan defines an Allocation Report as “a report made to the Central Repository by an Industry Member that identifies the Firm Designated ID for any account(s), including subaccount(s), to which executed shares are allocated and provides the security that has been allocated, the identifier of the firm reporting the allocation, the price per share of shares allocated, the side of shares allocated, the number of shares allocated to each account, and the time of the allocation.” [201] The CAT NMS Plan explains, for the avoidance of doubt, that an Allocation Report shall not be required to be linked to particular orders or executions.[202]

Request for Comment

162. The Commission granted an exemption from Rule 613 in order to allow the alternative of permitting the CAT NMS Plan to provide that Industry Members record and report to the Central Repository an Allocation Report that includes the Firm Designated ID when an execution is allocated in whole or part. This alternative is in lieu of the requirement in Rule 613 that Industry Members must report the account number for any subaccount to which an execution is allocated.[203] Do Commenters believe that providing the information required in an Allocation Report as a means to identify order events and information related to the subaccount allocation information (the “Allocation Report Approach”) would be more efficient and cost-effective than the Rule 613 approach requiring the reporting of the account number for any subaccount to which an execution is allocated? Or do Commenters believe that the Rule 613 approach is preferable? Why or why not?

163. Do Commenters believe that the Allocation Report Approach would affect the completeness of CAT Data? If so, how? Would the Allocation Report Approach result in more complete CAT Data? If so, please explain.

164. Do Commenters believe that the Allocation Report Approach would affect the accessibility of allocation information? If so, how? Would the Allocation Report Approach result in more accessible CAT Data? If so, please explain.

165. Do Commenters believe that the Allocation Report Approach would affect the timeliness of allocation information? If so, how? Would the Allocation Report Approach result in more timely CAT Data? If so, please explain.

166. Do Commenters believe the Allocation Report Approach would affect the security and confidentiality of CAT Data? If so, how? Would the Allocation Report Approach result in a different level of security or confidentiality? If so, please explain.

167. Do Commenters believe that the Allocation Report Approach described by the SROs is feasible? What challenges or risks would CAT Reporters face in providing such information? What challenges or risks would the Plan Processor face when ingesting such information and linking it to the appropriate Customers' accounts?

9. Options Market Maker Quotes

Section 6.4(d)(iii) of the CAT NMS Plan states that, with respect to the reporting obligations of an Options Market Maker under Sections 6.3(d)(ii) and (iv) regarding its quotes [204] in Listed Options, such quotes shall be reported to the Central Repository by the relevant Options Exchange in lieu of reporting by the Options Market Maker.[205] Section Start Printed Page 306456.4(d)(iii) further states that each Participant that is an Options Exchange shall, through its Compliance Rule, require its Industry Members that are Options Market Makers to report to the Options Exchange the time at which a quote in a Listed Option is sent to the Options Exchange (and, if applicable, the time of any subsequent quote modification and/or cancellation where such modification or cancellation is originated by the Options Market Maker).[206] Such time information also shall be reported to the Central Repository by the Options Exchange in lieu of reporting by the Options Market Maker.[207]

Request for Comment

168. The Commission granted an exemption from Rule 613 in order to allow the alternative of permitting Options Exchanges to report Options Market Maker quotes to the Central Repository in lieu of requiring such reporting by both the Options Exchange and the Options Market Maker as is required by Rule 613, to be included in the CAT NMS Plan and subject to notice and comment.[208] Do Commenters believe that permitting exchanges to report quote information sent to them by Options Market Makers, including the Quote Sent Time, to the Central Repository would affect the completeness or quality of CAT Data? If so, what information would be missing?

169. Under Rule 613, Options Market Makers would report their quotes to the Central Repository and time stamps would be attached to such quotes. Under the exemption, Options Market Makers would include the Quote Sent Time when sending quote information to the Options Exchanges. What, if any, are the risks of permitting the Options Exchanges to report information Options Market Makers otherwise would be required to report?

170. Do Commenters believe that the cost savings from permitting Options Exchanges to report information Options Market Makers would otherwise have to report makes this a preferable approach than Rule 613?

10. Error Rates

The CAT NMS Plan defines Error Rate as “the percentage of [R]eportable [E]vents collected by the [C]entral [R]epository in which the data reported does not fully and accurately reflect the order event that occurred in the market.” [209] Under the CAT NMS Plan, the Operating Committee sets the maximum Error Rate that the Central Repository would tolerate from a CAT Reporter reporting data to the Central Repository.[210] The Operating Committee reviews and resets the maximum Error Rate, at least annually.[211] If a CAT Reporter reports CAT Data to the Central Repository with errors such that their error percentage exceeds the maximum Error Rate, then such CAT Reporter would not be in compliance with the CAT NMS Plan or Rule 613.[212] As such, “the Participants as Participants or the SEC may take appropriate action for failing to comply with the reporting obligations under the CAT NMS Plan and SEC Rule 613.” [213] The CAT NMS Plan, however, does not detail what specific compliance enforcement provisions would apply if a CAT Reporter exceeds the maximum Error Rate.

The CAT NMS Plan sets the initial maximum Error Rate at 5% for any data reported pursuant to subparagraphs (3) and (4) of Rule 613(c).[214] The SROs highlight that “the Central Repository will require new reporting elements and methods for CAT Reporters and there will be a learning curve when CAT Reporters begin to submit data to the Central Repository” in support of a 5% initial rate.[215] Further, the SROs state that “many CAT Reporters may have never been obligated to report data to an audit trail.” [216] The SROs believe an initial maximum Error Rate of 5% “strikes the balance of making allowances for adapting to a new reporting regime, while ensuring that the data provided to regulators will be capable of being used to conduct surveillance and market reconstruction.” [217] In the CAT NMS Plan, the Participants compared the contemplated Error Rates of CAT Reporters to the error rates of OATS reporters in the time periods immediately following three significant OATS releases in the last ten years.[218] The Participants state that for the three comparative OATS releases: [219] An average of 2.42% of order events did not pass systemic validations; an average of 0.36% of order events were not submitted in a timely manner; an average of 0.86% of orders were unsuccessfully matched to a trade reporting facility trade report; an average of 3.12% of OATS Route Reports were unsuccessfully matched to an exchange order; and an average of 2.44% of OATS Route Reports were unsuccessfully matched to a report by another reporting entity.[220]

The Participants, moreover, anticipate reviewing and resetting the maximum Error Rate once Industry Members (excluding Small Industry Members) begin to report to the Central Repository and again once Small Industry Members report to the Central Repository.[221]

The Participants thus propose a phased approach to lowering the maximum Error Rates among CAT Reporters based on the period of time reporting to the Central Repository and whether the CAT Reporters are Participants, large broker-dealers or small broker-dealers.[222] The Plan sets forth a goal of the following maximum Error Rates [223] where “Year(s)” refers to year(s) after the CAT NMS Plan's date of effectiveness:

Start Printed Page 30646

Table 1—Maximum Error Rates Schedule

One year %Two years %Three years %Four years %
Participants5111
Large Industry MembersN/A511
Small Industry MembersN/AN/A51

The CAT NMS Plan requires that the Plan Processor to: (i) Measure and report errors every business day; [224] (ii) provide CAT Reporters daily statistics and error reports as they become available, including a description of such errors; [225] (iii) provide monthly reports to CAT Reporters that detail a CAT Reporter's performance and comparison statistics; [226] (iv) define educational and support programs for CAT Reporters to minimize Error Rates; [227] and (v) identify, daily, all CAT Reporters exceeding the maximum allowable Error Rate.[228] To timely correct data-submitted errors to the Central Repository, the Participants require that the Central Repository receive and process error corrections at all times.[229] Further, the CAT NMS Plan requires that CAT Reporters be able to submit error corrections to the Central Repository through a web-interface or via bulk uploads or file submissions, and that the Plan Processor, subject to the Operating Committee's approval, support the bulk replacement of records and the reprocessing of such records.[230] The Participants, furthermore, require that the Plan Processor identify CAT Reporter data submission errors based on the Plan Processor's validation processes.[231]

Request for Comment [232]

171. Do Commenters believe the CAT NMS Plan's initial maximum Error Rate of 5% for CAT Data reported to the Central Repository is appropriate in light of OATS' current error rate of less than 1%? [233] Why or why not?

172. Please provide examples of error rates that are generally accepted with respect to other regulatory data reporting systems. At what error rate should data be considered materially unreliable? Please explain.

173. Do Commenters believe the CAT NMS Plan's initial maximum Error Rate of 5% would negatively affect the quality of CAT Data? Why or why not? In explaining why or why not, please address each quality (accuracy, completeness, timeliness and accessibility) separately.

174. Do Commenters believe that it was reasonable for the Participants to compare the contemplated Error Rates of CAT Reporters to the error rates of OATS reporters in the time periods immediately following three significant OATS releases in the last ten years? Why or why not?

175. If not 5%, what initial maximum Error Rate do Commenters believe Participants and Industry Members should be subject to and why?

176. What impact, if any, do Commenters believe a 5% initial maximum Error Rate would have on Industry Members' costs of compliance? Please describe the costs of correcting audit trail data. Given the costs of correcting audit trail data, do Commenters believe that establishing a lower maximum Error Rate could be less costly to Industry Members? Why or why not? How much less costly?

177. What impact, if any, do Commenters believe a 5% initial maximum Error Rate would have on the timing of the retirement of any redundant audit trail systems and any related costs? Please explain. Should the actual Error Rate for CAT Data affect the timing of the retirement of any redundant audit trail systems? If so, why? If not, why not?

178. Do Commenters believe the CAT NMS Plan's target maximum Error Rate of 1% for CAT Data reported to the Central Repository pursuant to the CAT NMS Plan's phased approach is the appropriate target maximum Error Rate in light of current industry standards? If not, why not? If not 1%, what target maximum Error Rate do Commenters believe Participants and Industry Members should be subject to and why?

179. Do Commenters believe there are any increased risks as a result of allowing CAT Data subject to an initial maximum Error Rate of 5% to be reported to the CAT? How difficult would it be for the Central Repository to process and analyze CAT Data based on data reported subject to an initial maximum Error Rate of 5%? Specifically, what are the increased risks, if any, of CAT Data reported subject to an Error Rate of 5% in respect of combining or linking data within the Central Repository or across other sources of trade and order data currently available to regulators?

180. Do Commenters believe there are any increased risks as a result of allowing CAT Data subject to a target maximum Error Rate of 1% to be reported to the CAT? How difficult would it be for the Central Repository to process and analyze CAT Data based on data reported subject to a target maximum Error Rate of 1%? Specifically, what are the increased risks, if any, of CAT Data reported subject to an Error Rate of 1% in respect of combining or linking data within the Central Repository or across other sources of trade and order data currently available to regulators?

181. The CAT NMS Plan provides that the Participants would review and reset, at least on an annual basis, the maximum Error Rate. Do Commenters believe that this establishes an appropriately rigorous schedule for the Participants to evaluate whether the maximum Error Rate could potentially be set to a lower rate? Are there any other factors that should affect when and how the maximum Error Rate is set?

182. The CAT NMS Plan provides as a goal a four-year phased approach schedule to lower the maximum Error Start Printed Page 30647Rate segmented by Participants, large broker-dealers and small broker-dealers. Do Commenters believe a phased schedule is appropriate and reasonable? Do Commenters believe establishing segments is appropriate and reasonable, and if so are these the appropriate Error Rate groupings? What alternative groupings, if any, do Commenters believe are the appropriate Error Rate groupings?

183. Do Commenters believe that the CAT NMS Plan is clear whether the four-year phased approach is a goal? Should it be more than a goal? Please explain.

184. Do Commenters believe the phased approach for CAT implementation, whereby SROs would begin reporting CAT Data one year prior to other CAT Reporters and two years prior to small CAT Reporters, would affect the quality of the CAT Data and the number of available CAT Data items in the audit trail?

185. Do Commenters believe the CAT NMS Plan provides adequate enforcement provisions to ensure CAT Reporters submit data to the Central Repository no higher than the maximum Error Rate? If not, what additional enforcement provisions should the CAT NMS Plan provide?

186. Do Commenters believe that there should be a lower initial maximum Error Rate and/or a more accelerated or slower reduction of the target maximum Error Rate? Would an accelerated reduction of the target maximum Error Rate facilitate the earlier retirement of any redundant audit trail system? What should the initial maximum Error Rate and/or what should be the schedule for reducing the target maximum Error Rate?

187. What framework and criteria should regulators adopt when determining whether to retire potentially redundant regulatory data reporting systems? Please explain when and how such retirement should take place.

188. Do Commenters believe the CAT NMS Plan sets forth sufficient consequences for a CAT Reporter exceeding the maximum Error Rates? If not, what should be those consequences?

189. Do Commenters believe that some errors are of greater concern than others? If so, what types of errors are more or less problematic? Should the type of error be considered when calculating Error Rates? If so, how should the Plan Processor take into account different types of errors when calculating Error Rates? How should the Participants take into account different types of errors when setting Error Rates?

11. Regulatory Access

Under Section 6.5(c) of the CAT NMS Plan, the Plan Processor must provide regulators access to the Central Repository for regulatory and oversight purposes and create a method of accessing CAT Data that includes the ability to run complex searches and generate reports.[234] Section 6.10(c) requires regulator access by two different methods: (1) An online targeted query tool with predefined selection criteria to choose from; and (2) user-defined direct queries and bulk extractions of data via a query tool or language allowing querying of all available attributes and data sources.[235] Additional requirements concerning regulator access appear in Section 8 of Appendix D.[236]

The CAT NMS Plan requires that CAT must support a minimum of 3,000 regulatory users and at least 600 such users accessing CAT concurrently without an unacceptable decline in performance.[237] Moreover, CAT must support an arbitrary number of user roles and, at a minimum, include defined roles for both basic and advanced regulatory users.[238]

a. Online Targeted Query Tool

Sections 8.1.1, 8.1.2, and 8.1.3 of Appendix D contain further specifications for the online targeted query tool.[239] The tool must allow for retrieval of processed and/or validated (unlinked) data via an online query screen that includes a choice of a variety of pre-defined selection criteria.[240] Targeted queries must include date(s) and/or time range(s), as well as one or more of a variety of fields listed in Section 8.1.1 (e.g., product type, CAT-Reporter-ID, and Customer-ID).[241] Targeted queries would be logged such that the Plan Processor could provide monthly reports to the SROs concerning metrics on performance and data usage of the search tool.[242] The CAT NMS Plan further requires that acceptable response times for the targeted search be in increments of less than one minute; for complex queries scanning large volumes of data or large result sets (over one million records) response times must be available within 24 hours of the request; and queries for data within one business date of a 12-month period must return results within three hours regardless of the complexity of criteria.[243] Under the CAT NMS Plan, regulators may access all CAT Data except for PII data (access to which would be limited to an authorized subset of Participant and Commission employees) and the Plan Processor must work with regulators to implement a process for providing them with access and routinely verifying a list of active users.[244]

b. User-Defined Direct Queries and Bulk Extraction of Data

Section 8.2 of Appendix D outlines the requirements for user-defined direct queries and bulk extraction of data, which regulators would use to obtain large data sets for internal surveillance or market analysis.[245] Under the CAT NMS Plan, regulators must be able to create, save, and schedule dynamic queries that would run directly against processed and/or unlinked CAT Data.[246] Additionally, CAT must provide an open application program interface (“API”) that allows use of analytic tools and database drivers to access CAT Data.[247] Queries submitted through the open API must be auditable and the CAT System must contain the same level of control, monitoring, logging, and reporting as the online targeted query tool.[248] The Plan Processor must also provide procedures and training to regulators that would use the direct query feature.[249] Sections 8.2.1 and 8.2.2 of Appendix D contain additional specifications for user-defined direct queries and bulk data extraction, respectively.[250]

c. Regulatory Access Schedule

Section A.2 of Appendix C addresses the time and method by which CAT Start Printed Page 30648Data would be available to regulators.[251] Section A.2(a) requires that data be available to regulators any point after the data enters the Central Repository and passes basic format validations.[252] After errors are communicated to CAT Reporters on T+1, CAT Reporters would be required to report corrected data back to the Central Repository by 8 a.m. Eastern Time on T+3.[253] Regulators must then have access to corrected and linked Order and Customer data by 8:00 a.m. Eastern Time on T+5.[254] Section A.2(b) generally describes Bidders' approaches regarding regulator access and use of CAT Data and notes that although the SROs set forth the standards the Plan Processor must meet, they do not endorse any particular approach.[255] Section A.2(c) outlines requirements the Plan Processor must meet for report building and analysis regarding data usage by regulators, consistent with, and in addition to, the specifications outlined in Section 8 of Appendix D.[256]

Request for Comment [257]

190. Do Commenters believe the CAT NMS Plan's “Functionality of the CAT System” Section (Section 8 of Appendix D) describes with sufficient detail how a regulator would access, use and analyze CAT Data? If not, describe what, if any, additional requirements and details should be provided and how.

191. Do Commenters believe the CAT NMS Plan's “Functionality of the CAT System” Section sufficiently addresses all regulators' end-user requirements? If not, please explain. Describe what, if any, additional requirements and details should be provided and how.

192. If Commenters believe that the CAT NMS Plan's “Functionality of the CAT System” Section does not cover all regulators' end-user requirements, please describe how regulators would integrate their applications in a timely and reasonable manner.

193. The CAT NMS Plan permits the CAT to be implemented in a way that would (1) require regulators to download entire data sets and analyze such data within the regulator or the regulators' cloud or (2) permit regulators to analyze sets of data within the CAT using applications or programs selected by the Commission. What do Commenters believe are the advantages and disadvantages to each approach?

194. Do Commenters believe the CAT NMS Plan's T+5 schedule for regulatory access to corrected and linked Order and Customer data is the appropriate schedule in light of current industry standards? If not, why not? Do Commenters believe that the SROs' determination of current industry standards is reasonable or appropriate? Do Commenters believe that it is appropriate to base the timing for regulatory access on industry standards? Why or why not?

195. If the T+5 schedule is not appropriate, when do Commenters believe regulatory access to corrected and linked Order and Customer data should be provided and why? Do Commenters believe the SROs' should include in the CAT NMS Plan detailed provisions with milestones in achieving a more accelerated regulatory access schedule to corrected and linked Order and Customer data?

196. Do Commenters believe the Plan's proposed error correction timeframe—i.e., communication of errors on T+1, corrected data resubmitted by CAT Reporters by T+3, and corrected data available to regulators by T+5—is feasible and appropriate in light of current industry standards? If not, why not, and how long do Commenters believe these error correction timeframes should be and why? Are shorter timeframes feasible and appropriate in light of current industry standards? Why or why not?

197. To what extent do Commenters believe the CAT NMS Plan's T+5 regulatory access schedule to corrected and linked Order and Customer data would affect the accuracy, completeness, accessibility and/or timeliness of CAT Data collected and maintained under the CAT? How?

198. To what extent do Commenters believe the Plan's three-day window of error correction would affect the accuracy, completeness, accessibility and/or timeliness of CAT Data collected and maintained under the CAT? How?

199. Regulators' technology teams would be required to work with the Plan Processor to integrate their applications under the CAT NMS Plan. What, if any, are the risks to this approach? Should the Plan Processor be required to enter into support contracts with regulators? If so, please explain. Describe what, if any, service contract terms should be set forth in the CAT NMS Plan or set forth in any related documents. Do Commenters have any concerns about the security or confidentiality of CAT Data resulting from a service contract between the Plan Processor and the regulators? If so, please explain. If Commenters have any security or confidentiality concerns resulting from a service contract between the Plan Processor and the regulators, please specify any appropriate service contract terms that would address the concerns.

200. How do Commenters believe the Plan Processor should set pricing for a regulator seeking additional functionality from the Plan Processor under the CAT? What, if anything, do Commenters believe should govern pricing for additional functionality by the Plan Processor? For example, should pricing or contract standards (e.g., reasonable, commercially reasonable, etc.), agreed-upon profit margins—or minimums and maximums, etc.—be included under the CAT NMS Plan or any related documentation? If so, please explain.

201. Do Commenters believe the CAT NMS Plan appropriately encourages or incentivizes the Participants and the Plan Processor to incorporate new technology and to innovate? Does the CAT NMS Plan appropriately encourage or incentivize the Plan Processor to have a flexible and scalable solution? Do Commenters believe that the CAT NMS Plan would result in a CAT that has adequate system flexibility and scalability to incorporate improvements in technology and future regulatory, analytic and data capture needs? Why or why not?

202. Does the regulatory access approach set forth in the CAT NMS Plan provide regulators with sufficient tools to maximize their regulatory activities, actions, and improve their surveillances? If not, why not and what should be added?

203. The CAT NMS Plan provides that targeted queries and data extractions would be logged so that the Plan Processor can provide the Operating Committee, the Participants, and the Commission with monthly performance and usage reports including data such as the user ID of the person submitting the query and the parameters of the query. Do Commenters believe that the data to be recorded in these logs and provided in these reports to each Participant and to the SEC would be appropriate and useful? Should any data elements be added or removed from these reports?

204. Do Commenters believe it is appropriate for the Plan Processor and the Operating Committee to also have access to these logs and monthly performance and usage reports? How should the Plan Processor and Start Printed Page 30649Operating Committee be permitted to use these logs and reports? To the extent that these logs and reports are accessible by the Plan Processor and the Operating Committee, should any data elements be added or removed? Should additional details or requirements be added to the CAT NMS Plan to clarify what the content of these logs and reports would be and which parties would have access to them?

12. Security, Confidentiality, and Use of Data

The CAT NMS Plan provides that the Plan Processor is responsible for the security and confidentiality of all CAT Data received and reported to the Central Repository, including during all communications between CAT Reporters and the Plan Processor, data extraction, data manipulation and transformation, loading to and from the Central Repository, and data maintenance by the Central Repository.[258] The Plan Processor must, among other things, require that individuals with access to the Central Repository agree to use CAT Data only for appropriate surveillance and regulatory activities and to employ safeguards to protect the confidentiality of CAT Data.[259]

In addition, the Plan Processor must develop a comprehensive information security program as well as a training program that addresses the security and confidentiality of all information accessible from the CAT and the operational risks associated with accessing the Central Repository.[260] The Plan Processor must also designate one of its employees as Chief Information Security Officer; among other things, the Chief Information Security Officer is responsible for creating and enforcing appropriate policies, procedures, and control structures regarding data security.[261] The Technical Specifications, which the Plan Processor must publish, must include a detailed description of the data security standards for CAT.[262]

Appendix D of the CAT NMS Plan sets forth minimum data security requirements for CAT that the Plan Processor must meet.[263] For example, Appendix D enumerates various connectivity, data transfer, and encryption requirements such as that the CAT System must have encrypted internet connectivity, CAT Reporters must connect to CAT infrastructure using secure methods such as private lines or virtual private network connections over public lines, CAT Data must be encrypted in flight using industry standard best practices, PII data must be encrypted both at rest and in flight, and CAT Data stored in a public cloud must be encrypted at rest.[264] Additional requirements regarding data storage, data access, breach management, and PII data are also specified in Appendix D.[265]

In addition, the Participants must establish and enforce policies and procedures that ensure the confidentiality of the CAT Data obtained from the Central Repository, limit the use of CAT Data obtained from the Central Repository solely for surveillance and regulatory purposes,[266] implement effective information barriers between each Participant's regulatory and non-regulatory Staff with regard to CAT Data, and limit access to CAT Data to designated persons.[267] However, a Participant may use the Raw Data [268] it reports to the Central Repository for “commercial or other” purposes if not prohibited by applicable law, rule or regulation.[269]

Request for Comment

205. Do Commenters believe that the CAT NMS Plan appropriately allocates responsibility for the security and confidentiality of CAT Data among the Participants, the Plan Processor, and other parties? If not, how should these responsibilities be allocated?

206. Do Commenters believe that the data security requirements set out in Appendix D are appropriate and reasonable? Should any additional details or requirements be provided?

207. What, if any, specific details or requirements regarding data security and confidentiality do Commenters believe should be included in the information security program, training program, and Technical Specifications to be developed by the Plan Processor? Should additional details on the content of these programs and specifications be provided?

208. What, if any, specific details or requirements regarding data confidentiality do Commenters believe should be included in the policies and procedures to be developed by the Participants? Should additional details on the content of these policies and procedures be provided?

209. Do Commenters believe that the CAT NMS Plan includes sufficient safeguards to prevent the misuse of CAT Data by employees or agents of the Participants or other persons with access to the Central Repository? For example, do Commenters believe that requiring information barriers between regulatory and non-regulatory staff [270] and permitting the use of CAT Data only for regulatory, surveillance, and commercial or other purposes as permitted by law [271] are effective measures to prevent the misuse of CAT Data? Should the CAT NMS Plan set forth additional detail regarding the distinction between regulatory and non-regulatory staff and between the appropriate and inappropriate use of CAT Data for commercial or other purposes? Should the CAT NMS Plan prescribe any specific information barriers? If so, what should be prescribed in the CAT NMS Plan?

210. Do Commenters believe the data access and breach management provisions described in Appendix D of the CAT NMS Plan [272] are effective mechanisms for monitoring and preventing the misuse of CAT Data? Why or why not? Would any additional details or requirements make these provisions more effective?

211. Which persons or entities should have the responsibility to monitor for and prevent the misuse of CAT Data? For example, should the Chief Compliance Officer or the Chief Information Security Officer have this responsibility? Why or why not? Should additional details be provided to clarify where this responsibility lies?

212. Do Commenters believe it is appropriate for Participants to be permitted to use all Raw Data reported to the Central Repository for commercial purposes? If not, what particular types of Raw Data would be inappropriate to use for commercial purposes?

213. Do Commenters believe that the CAT NMS Plan adequately addresses the protection and security of PII in CAT? If not, why not and what should be added to the CAT NMS Plan? For example, should the CAT NMS Plan provide that PII is accessible only when required, that PII be properly masked, Start Printed Page 30650and/or that it be safeguarded such that it would not be improperly accessible?

214. Do Commenters believe that there are alternative methods or information that could be used in lieu of requiring the reporting of Customer PII to the Central Repository that, without diminishing the quality of CAT Data available to regulators or impairing regulators' ability to use CAT Data to carry out their functions, would create less risk of a breach of the security or confidentiality of the personal information of Customers? If so, what methods or information, specifically, could serve as such an alternative to PII? [273]

215. Do Commenters believe that the CAT NMS Plan includes adequate requirements regarding the operational security of the CAT System? What, if any, additional details or requirements should be provided? Should the CAT NMS Plan require the Plan Processor to have the ability to monitor for threats, attacks, and anomalous activity on a 24/7 basis through a Security Operations Center (“SOC”) or a similar capability? What would be the costs and benefits of such a requirement?

216. Appendix C of the CAT NMS Plan discusses solutions for encrypting data at rest and in motion. Appendix D of the CAT NMS Plan states that all CAT Data must be encrypted in flight, and PII Data must encrypted in flight and at rest. Do Commenters believe that the Plan's data encryption requirements are adequate for CAT Data and PII Data? Why or why not? Do Commenters believe that the CAT NMS Plan provides sufficient information and clarity regarding data encryption requirements? Do Commenters believe that there is a particular method for data encryption, in motion and/or at rest, that should be used?

217. Appendix D, Section 4.1.1 of the CAT NMS Plan states that the CAT System must have “encrypted internet connectivity.” What are the risks, if any, of allowing Internet access from the Central Repository, even if encrypted? Please explain. Do Commenters believe that the encrypted connection requirement in the CAT NMS Plan should apply to communication paths from the Central Repository to the Internet and/or connections from CAT to/from trusted parties? What challenges would the Plan Processor face in implementing either option? Does one option provide more robust security than the other? Why or why not?

218. To the extent the requirement for “encrypted internet connectivity” applies to connectivity between the Central Repository and trusted parties such as the Commission and the Participants, do Commenters believe that the CAT NMS Plan should require that these parties and the Plan Processor enter into formal Memoranda of Understanding or Interconnection Security Agreements that document the technical, operational, and management details regarding the interface between the CAT System and these parties? Why or why not?

219. With respect to industry standards, do Commenters believe that the CAT NMS Plan should be updated to include standards and requirements of other NIST Special Publications (“SPs”) that were not mentioned in Appendix D (e.g., NIST SP 800-86 for incident handling, 800-44 for securing public-facing web servers, 800-146 for cloud security)? Why or why not?

220. Do Commenters believe that the Plan should be updated more broadly to include the NIST family of guidance documents? Why or why not?

221. Throughout the Plan, there are numerous references to leveraging “industry best practices” pertaining to compliance subjects such as system assessments and disaster recovery/business continuity planning. How do “industry best practices” compare to NIST guidance in these areas? Do Commenters believe that the Plan Processor should implement NIST guidance for the Plan rather than industry best practices? Why or why not?

222. The CAT NMS Plan states that the Plan Processor must conduct third party risk assessments at regular intervals to verify that security controls implemented are in accordance with NIST SP 800-53.[274] Do Commenters believe that the CAT NMS Plan should adopt the meaning and terminology of Security Assessment and Authorization as defined by the NIST and/or other NIST guidance in the CAT NMS Plan, particularly within the requirements set forth in Appendix D to the CAT NMS Plan? Why or why not?

223. Do Commenters believe that the CAT NMS Plan should include requirements regarding how the Plan Processor should categorize data from a security perspective? For example, should the Plan Processor be required to implement data categorization standards consistent with Federal Information Processing Standard (“FIPS”) 199 or NIST SP 800-60? Why or why not? Would including data categorization requirements in the CAT NMS Plan improve data integrity, availability, segmentation, auditing, and incident response? Why or why not?

224. The CAT NMS Plan provides that CAT must follow NIST SP 800-137—Information Security Continuous Monitoring for Federal Information Systems and Organizations in addition to a limited number of related monitoring provisions.[275] Do Commenters believe that the CAT NMS Plan provides sufficient and robust information related to continuous monitoring program requirements? Why or why not?

225. Do Commenters believe the CAT NMS Plan adequately sets forth the roles and responsibilities of independent third party risk assessment functions, including the consistent description of their specific functions and performance frequency? For example, are the CAT NMS Plan independent third party risk assessment provisions consistent with “industry best practices”? Or should the CAT require a greater or lesser performance frequency than as described in the CAT NMS Plan? As another example, do the technical assessments described in Section 6.2, Appendix C, Section A.5, and the NIST SP 800-53 requirements noted in Appendix D, Section 4.2, adequately and clearly establish the roles and responsibilities of the parties assessing the technical aspects of the CAT?

226. Do Commenters believe the CAT NMS Plan should specify the general audit and independent assessment requirements and the proper timeframes for when those assessments should occur? For instance, are there assessments that may need to occur on an annual basis? If so, what are those assessments? Are there assessments that may need to occur more frequently? If so, what are those assessments and why do they need to occur more frequently?

227. Do Commenters believe that the CAT NMS Plan requirements for conducting ad hoc penetration testing and an application security code audit by a reputable third-party in Appendix D, Section 4.1.3 “prior to launch” and periodically as defined by SLAs are consistent with industry best practices? Should additional testing or audits be required? Why or why not? Should testing or audits be required to occur more frequently than required by the CAT NMS Plan and SLAs? Why or why not?

228. Do Commenters believe that the third party risk assessments and penetration tests required by the CAT Start Printed Page 30651NMS Plan could themselves compromise the security or confidentiality of CAT Data? Please explain.

229. In Section 6.2(b)(vi) of the CAT NMS Plan, the Chief Information Security Officer is required to report to the Operating Committee the activities of the Financial Services Information Sharing and Analysis Center (“FS-ISAC”) or other comparable body. Do Commenters believe there are other cyber and threat intelligence bodies, in addition to FS-ISAC, that the Plan Processor should join? Why or why not?

230. Do Commenters believe the CAT NMS Plan effectively describes the verification process when CAT Reporters connect to the Central Repository network? For example, which specific individual(s) at a CAT Reporter would be allowed access to CAT for reporting and verification purposes? Should there be a public key exchange process?

231. Do Commenters believe the CAT NMS Plan provides sufficient detail regarding the ability of CAT to determine whether a regulator's queries are shielded from the Plan Processor (including its staff, officers, and administrators) as well as other regulators and users of CAT? If not, what specifically should be added to the CAT NMS Plan?

232. Do Commenters believe that the CAT NMS Plan should require an audit of all CAT Reporters' data security? If so, which person or entity should have responsibility for such an audit, and what should the scope and elements of the audit be? Please estimate the cost of such audits. What other changes, if any, should be made to the CAT NMS Plan to provide for the allocation of sufficient resources whereby such an audit could be carried out?

233. Do Commenters believe the CAT NMS Plan should require the Plan Processor to provide a “blanket” security authorization to operate (“ATO”) document (or its equivalent) prior to CAT Reporters sending CAT Data?

IV. Economic Analysis

A. Introduction

When adopting Rule 613, the Commission noted that the adopted Rule permitted the SROs to consider a wider array of solutions than did the proposed Rule. The Commission stated its belief that, as a result, “the economic consequences of the consolidated audit trail now will become apparent only over the course of the multi-step process for developing and approving an NMS plan that will govern the creation, implementation, and maintenance of a consolidated audit trail.” [276] In particular, the Commission noted its belief that “the costs and benefits of creating a consolidated audit trail, and the consideration of specific costs as related to specific benefits, is more appropriately analyzed once the SROs narrow the expanded array of choices they have under the adopted Rule and develop a detailed NMS plan.” [277] The Commission also noted that a “robust economic analysis of . . . the actual creation and implementation of a consolidated audit trail itself . . . requires information on the plan's detailed features (and their associated cost estimates) that will not be known until the SROs submit their NMS plan to the Commission for its consideration.” [278] Accordingly, the Commission deferred its economic analysis of the actual creation, implementation, and maintenance of the CAT until after submission of an NMS plan.

To assist in that analysis, Rule 613, as adopted, requires that the SROs: (1) Provide an estimate of the costs associated with creating, implementing, and maintaining the consolidated audit trail under the terms of the NMS plan submitted to the Commission for its consideration; (2) discuss the costs, benefits, and rationale for the choices made in developing the NMS plan submitted; and (3) provide their own analysis of the submitted NMS plan's potential impact on competition, efficiency and capital formation.[279] The Commission stated that it believed that these estimates and analyses would help inform public comment regarding the CAT NMS Plan and would help inform the Commission as it evaluates whether to approve the CAT NMS Plan.[280]

The Commission is sensitive to the economic effects of the CAT NMS Plan,[281] including its costs and benefits and its impact on efficiency, competition and capital formation. In the Adopting Release for Rule 613, the Commission considered the economic effects of the actions the SROs were required to take upon approval of the adopted Rule, specifically the requirement that the SROs develop an NMS plan, utilizing their own resources and undertaking their own research, that addresses the specific details, cost estimates, considerations, and other requirements of the Rule.[282] As noted in the Adopting Release, however, Rule 613 provided the SROs with “flexibility in how they [chose] to meet the requirements of the adopted Rule,” [283] allowing the SROs to consider a number of different approaches in developing the CAT NMS Plan.

In accordance with the approach articulated by the Commission in the Adopting Release, the Commission is hereby publishing its economic analysis of the CAT NMS Plan and is soliciting comment thereon. This Section reflects the Commission's preliminary analysis and conclusions regarding the economic effects of the creation, implementation and maintenance of the CAT pursuant to the details proposed in the NMS plan submitted to the Commission for its consideration. The analysis is divided into eight topics: (1) A summary of the expected economic effects of approving the CAT NMS Plan; (2) a description of the economic framework for analyzing the economic effects of approving the CAT NMS Plan; (3) a discussion of the current, or “Baseline,” audit trail data available to regulators, and the sources of such data; (4) a discussion of the potential benefits of the CAT NMS Plan; (5) a discussion of the potential costs of the CAT NMS Plan; (6) an economic analysis of the CAT NMS Plan's impact on efficiency, competition, and capital formation; (7) a discussion of alternatives to various features of the CAT NMS Plan and to the CAT NMS Plan itself; and (8) a request for comment on the Commission's preliminary economic analysis.

B. Summary of Expected Economic Effects

As the Commission explained in the Adopting Release, the Commission believes that the regulatory data infrastructure on which the SROs and the Commission currently must rely is outdated for effective oversight of a complex, dispersed, and highly automated national market system.[284] In performing their oversight responsibilities, regulators today must attempt to cobble together disparate data from a variety of existing information systems, each lacking in completeness, Start Printed Page 30652accuracy, accessibility, and/or timeliness—a model that neither supports the efficient aggregation of data from multiple trading venues nor yields the type of complete and accurate market activity data needed for robust market oversight.[285] The Commission has analyzed the expected economic effects of the CAT NMS Plan in light of these existing shortcomings and the goal of improving the ability of SROs and the Commission to perform their regulatory activities to the benefit of investors.[286]

In general, the Commission preliminarily believes that, if approved, the CAT NMS Plan would result in benefits by improving the quality of the data available to regulators in four areas that affect the ultimate effectiveness of core regulatory efforts—completeness, accuracy, accessibility and timeliness.[287] The Commission preliminarily believes that the improvements in these data qualities that would be realized from approval of the CAT NMS Plan would substantially improve regulators' ability to perform analysis and reconstruction of market events, and market analysis and research to inform policy decisions, as well as perform other regulatory activities, in particular market surveillance, examinations, investigations, and other enforcement functions. Regulators depend on data for many of these activities and the improvements in the data qualities would thus improve the efficiency and effectiveness of such regulatory activities. As explained further below, these improvements could benefit investors by giving regulators more and better regulatory tools to provide investors with a more effectively regulated trading environment,[288] which could increase capital formation, liquidity, and price efficiency. Data improvements could enhance regulators' ability to provide investors and the public with more timely and accurate analysis and reconstruction of market events, and to develop more effective responses to such events.[289] Improved understanding of emerging market issues resulting from enhanced market analysis and research could inform regulatory policies that improve investor protection through better market quality, more transparency, and more efficient prices.

In terms of completeness, the Plan requires the reporting of certain additional data fields, events, and products.[290] More importantly, the CAT NMS Plan requires certain data elements useful for regulatory analysis to be available from a single data source. Having relevant data elements available from a single source would simplify regulators' data collection process and facilitate more efficient analyses and surveillances that incorporate cross-market and cross-product data.

With respect to the accuracy of available data, the Commission preliminarily believes that the requirements in the Plan would improve data accuracy significantly. For example, the Commission expects that the requirements to store the CAT Data in a uniform linked format and the use of consistent identifiers for customers and market participants would result in fewer inaccuracies as compared to current data sources. These accuracy improvements should significantly reduce the time regulators spend processing the data and finding solutions when faced with inaccurate data. The Commission preliminarily believes that the requirements in the Plan for clock synchronization and time stamp granularity would improve the accuracy of data with respect to the timing of market events, but the improvements would be modest. The Commission preliminarily believes that the Plan would improve regulators' ability to determine the sequence of a small percentage of market events relative to all surrounding events.[291]

The Commission also preliminarily believes that the Plan would increase the accessibility of data for SROs and the Commission, because regulators would be able to access the CAT Data directly.[292] This, coupled with the improvements in completeness, would vastly increase the scope of information readily available to regulators and significantly reduce the number of data requests from the several hundred thousand requests regulators make each year. The increased scope of readily available information should facilitate more data-driven regulatory policy decisions, broaden the potential surveillances, expand the opportunities for SRO and Commission analysis to help target broker-dealers and investment advisers for examinations and help to perform those examinations.

Finally, the Commission preliminarily believes that the CAT NMS Plan would improve the timeliness of available data. Because regulators would be able to access uncorrected data the day after an order event and would be able to access corrected and linked data five days after an order event,[293] many data elements would be available to regulators more quickly than they are currently and the amount of time regulators would need to acquire and process data before running analyses would be reduced. For example, the corrected and linked data available on T+5 would identify the customer account associated with all order events, information that currently takes ten days or longer for regulators to obtain and then need to link to other data sources for use. These improvements in timeliness, combined with improvements in completeness, accessibility, and accuracy discussed above, would improve the efficiency of regulatory analysis and reconstruction of market events, as well as market analysis and research that informs policy decisions, and make market surveillance, examinations, investigations, and other enforcement functions more efficient, allowing, for example, the SROs and the Commission to review tips and complaints more effectively.

The Commission notes that the Plan lacks information regarding the details of certain elements of the Plan likely to affect the costs and benefits associated Start Printed Page 30653with it, primarily because those details have not yet been determined, and this lack of information creates some uncertainty about the expected economic effects. As discussed further below, lack of specificity surrounding the processes for converting data formats and linking related order events creates uncertainty as to the anticipated improvements in accuracy because such processes have the potential to create new data inaccuracies. Lack of specificity surrounding the process for regulators to access the CAT Data also creates uncertainty around the expected improvements in accessibility. For example, while the Plan indicates that regulators would have an on-line targeted query tool and a tool for user-defined direct queries or bulk extraction,[294] the Plan itself does not provide an indication for how user-friendly the tools would be or the particular skill set needed to use the tools for user-defined direct queries. However, the Commission has analyzed the expected economic effects of the Plan to the extent possible with the information available, noting areas of uncertainty in its analysis where applicable. The Commission has also considered whether certain provisions related to the operation and administration of the Plan could mitigate some of the uncertainties.[295]

The Commission also preliminarily believes that more effective and efficient regulation of securities markets and market participants resulting from approval of the CAT NMS Plan could significantly benefit investors and the integrity of the market. For example, the Commission preliminarily believes that more effective and efficient surveillance and enforcement would detect a higher proportion of violative market activity. This additional detection could not only reduce violative behavior through potential enforcement actions, but through deterrence if market participants believe violative activities are more likely to be detected. Because violative activity degrades market quality and imposes costs on investors and market participants, reductions in violative activity would benefit investors and market integrity. Likewise, more effective and efficient risk assessment and risk-based examinations should more effectively facilitate the selection of market participants for examination who have characteristics that elevate their risk of violating the rules. Decreasing the amount of violative activity by targeting exams in this way would provide investors with a more effectively regulated trading environment and hence better market quality. Further, access to audit trail data that is comprehensive, accurate, and timely could improve regulatory reconstruction of market events, market analysis, and research resulting in an improved understanding of emerging market issues and regulatory policies that better encourage industry competition, thus improving investor protection through better transparency and more efficient prices.[296]

Further, regulatory initiatives that are based on a more thorough understanding of underlying events and their causes, and that are narrowly tailored to address any market deficiency, could improve market quality and thus benefit investors. Moreover, access to more complete and linked audit trail data would improve regulators' ability to analyze and reconstruct market events, allowing regulators to provide investors and the public with more accurate explanations of market events, to develop more effective responses to such events, and to use the information to assist in retrospective analyses of their rules and pilots.

The Commission has also evaluated the potential costs that would result from approval of the CAT NMS Plan. In particular, using information included in the Plan, information gathered from market participants through discussions, surveys of market participants, and other relevant information, the Commission has preliminarily estimated the potential costs associated with building and maintaining the Central Repository as well as the costs to report data to the Central Repository. Currently, the 20 Participants spend $154.1 million annually on reporting regulatory data and performing surveillance, while the approximately 1,800 broker-dealers anticipated to have CAT reporting responsibilities spend $1.6 billion annually on regulatory data reporting, for total current industry costs of $1.7 billion annually for regulatory data reporting and surveillance by SROs. The Commission preliminarily estimates the cost of the Plan as approximately $2.4 billion in initial aggregate implementation costs and recurring annual costs of $1.7 billion.[297] The primary driver of the annual costs is the data reporting costs for broker-dealers, which are estimated to be $1.5 billion per year. For both large and small broker-dealers, the primary driver of both current $1.6 billion reporting costs and projected $1.5 billion CAT reporting costs is costs associated with staffing. Estimates of the costs to build the Central Repository are based on Bids that vary in a range as high as $92 million. Current estimates of annual operating costs are based on Bids that vary in a range up to $135 million. The eventual magnitude of Central Repository costs is dependent on the Participants' selection of the Plan Processor, and may ultimately differ from estimates discussed above if Bids are revised as the bidding process progresses. Furthermore, the Plan anticipates a period of duplicative reporting responsibilities preceding the retirement of potentially duplicative regulatory data reporting systems; these duplicative reporting costs are likely to be significant.[298]

Drawing from the discussion in the CAT NMS Plan,[299] the Commission expects that, if approved, the Plan would have a number of additional economic effects, including effects on efficiency, competition, and capital formation. The Commission preliminarily believes that the Plan generally promotes competition. However, the Commission recognizes that the Plan could increase barriers to entry because of the costs to comply with the Plan. Further, the Commission's analysis identifies several limiting factors to competition but Plan provisions and Commission oversight could address such limiting factors. The Commission preliminarily believes that the Plan would improve regulatory analysis and reconstruction of market events, as well as market analysis and research that informs policy decisions. In addition, the Plan would improve enforcement related activities, including the efficiency of regulatory activities such as market surveillance, examinations, investigations, and other enforcement functions that could enhance market efficiency by reducing violative activity that harms market efficiency. Finally, the Commission preliminarily believes that the Plan could have positive effects on capital formation and allocative efficiency and that the threat of a security breach at the Central Repository is unlikely to significantly harm capital formation. The Commission recognizes that the Plan's likely effects on competition, efficiency and capital formation are dependent to some extent on the Start Printed Page 30654performance and decisions of the Plan Processor and the Operating Committee in implementing the Plan, and thus there is necessarily some uncertainty in the Commission's analysis. Nonetheless, the Commission believes that the Plan contains certain governance provisions, as well as provisions relating to the selection and removal of the Plan Processor, that mitigate this uncertainty by promoting decision-making that could, on balance, have positive effects on competition, efficiency, and capital formation.

The Commission notes that while the Participants developed the Plan in compliance with Rule 613 by considering information from industry representatives, the Commission has discretion to approve the Plan subject to changes or conditions that the Commission deems necessary or appropriate.[300] Therefore, as a part of this economic analysis, the Commission analyzed numerous alternatives to provisions of the CAT NMS Plan and to the CAT NMS Plan itself. The Commission analyzes alternatives to the approaches the Exemption Order permitted the Participants to include in the Plan; [301] alternatives to certain specific approaches in the Plan; alternatives to the scope of certain specific elements of the Plan; and the broad alternative of modifying OATS or another existing system to meet the requirements of Rule 613 instead of approving the Plan. Finally, the Commission requests comment on alternatives discussed in this economic analysis, alternatives considered in the Plan, and on whether the Commission should consider any additional alternatives.

C. Framework for Economic Analysis

As discussed above, the Commission is conducting an economic analysis of the CAT NMS Plan filed by the SROs on February 27, 2015, as amended, as anticipated in the Adopting Release for Rule 613.[302] In particular, the Commission has carefully evaluated the information in the CAT NMS Plan, including the twelve considerations required by Rule 613 [303] and the details of the decisions left to the discretion of the SROs. The Commission has also considered information drawn from outside the Plan in order to assess potential economic effects not addressed therein. To provide context for this analysis, this Section describes the economic framework for the analysis and seeks to identify uncertainties within that framework.

1. Economic Framework

a. Benefits

The CAT NMS Plan would create a new data source that could replace the use of some current data sources for many regulatory activities. As such, the economic benefits of the CAT NMS Plan would come from any expanded and more efficient regulatory activities facilitated by improvements to the data regulators use. Therefore, the framework for examining benefits in this economic analysis involves first considering whether and to what degree the CAT Data would improve on the Baseline of current trading and order data in terms of the four qualities of accuracy, completeness, accessibility, and timeliness.[304]

Through these improvements in the data, the economic analysis then considers the degree to which the Plan would result in improvements to regulatory activities such as the analysis and reconstruction of market events, in addition to market analysis and research conducted by SROs and Commission Staff, as well as market surveillance, examinations, investigations, and other enforcement functions. These potential improvements, based on the regulatory objectives of the CAT NMS Plan described in the Adopting Release,[305] relate to the overall goal of substantially enhancing the ability of the SROs and the Commission to oversee securities markets and fulfill their regulatory responsibilities under the securities laws. The economic analysis explores how the improvements to these regulatory activities provide economic benefits to investors and the market. Among other things, potential benefits that could result from the CAT NMS Plan include benefits rooted in changes in the behavior of market participants. For example, requirements to report certain data elements or events to the CAT could have the beneficial effect of deterring rule violations because the inclusion of certain data fields and improvements in the ability to surveil for violations could increase the perceived costs of violating rules and regulations. Potential benefits could also stem from improved investor protection, such as from more effective surveillance and more informed, data-driven rulemaking.

(1) Data Qualities

In the Adopting Release, the Commission identified four qualities of trade and order data that impact the effectiveness of core SRO and Commission regulatory efforts: Accuracy, completeness, accessibility, and timeliness.[306] In assessing the potential benefits of the CAT NMS Plan, the Commission's economic analysis compares the data that would be available under the Plan to the trading and order data currently available to regulators to determine whether and to what degree the Plan would improve the available data with respect to those four qualities.

(2) Regulatory Activities

Any economic benefits would derive from how such improved data would affect regulatory activities. Therefore, to analyze the potential benefits of the CAT NMS Plan, the economic analysis also evaluates the potential of the CAT NMS Plan to meet the regulatory objectives set out in the Adopting Release for Rule 613. The objectives are: Improvements in the analysis and reconstruction of broad-based market events; improvements in market analysis in support of regulatory decisions; and improvements in market surveillance, investigations, and other enforcement activities.[307]

A. Analysis and Reconstruction of Broad-Based Market Events

The economic analysis considers whether and to what extent the CAT NMS Plan would facilitate regulators' Start Printed Page 30655performance of analysis and reconstruction of market events, potentially helping to better inform both regulators and investors about such market events and speeding the regulatory response following market events. Regulators perform reconstructions of market events so that they and the public can be informed by an accurate accounting of what happened (and, possibly, why it happened). As discussed in the Benefits Section,[308] market reconstructions can take a significant amount of time, in large measure due to various deficiencies in the currently available trading and order data in terms of the four qualities described above.[309] The sooner regulators complete a reconstruction and analysis of a market event, the sooner investors can be informed and the sooner regulators can begin reviewing the event to determine what happened, who was affected and how, and whether the analysis supports potential regulatory responses.[310] In addition, the improved ability for regulators to generate prompt and complete market reconstructions could provide improved market knowledge, which could assist regulators in conducting retrospective analysis of their rules and pilots.

B. Market Analysis in Support of Regulatory Decisions

The economic analysis considers whether and to what extent the CAT NMS Plan would enhance the ability of the SROs and the Commission to conduct market analysis and research, including analysis of market structure, and the degree to which it would improve regulators' market knowledge and facilitate consideration of policy questions of interest. The SROs and Commission Staff conduct data-driven analysis on market structure, in direct support of both rulemaking and other regulatory decisions such as SRO rule approvals. The Commission also relies on such analysis to improve understanding of market structure in ways that could inform policy. Finally, SROs conduct market analysis and research on their own regulatory initiatives. Improvements in the ability to conduct market analysis could further improve analysis related to regulatory decisions and potentially influence those regulatory decisions to the benefit of investors and the markets more generally.

C. Market Surveillance and Investigations

The economic analysis examines whether the CAT NMS Plan would improve market surveillance and investigations, potentially resulting in more effective oversight of trading, better investor protection, and deterrence of violative behavior. As described in more detail in the Baseline Section,[311] both SROs and the Commission conduct market surveillance, examinations, investigations, and other enforcement functions targeting illegal activities such as insider trading, wash sales, or manipulative practices. Improvements in market surveillance and investigations could come in the form of “facilitating risk-based examinations, allowing more accurate and faster surveillance for manipulation, improving the process for evaluating tips, complaints, and referrals . . ., and promoting innovation in cross-market and principal order surveillance.” [312]

b. Costs

The economic analysis evaluates the costs of building and operating the Central Repository; the costs of CAT reporting for Participants, broker-dealers, and service bureaus; and other CAT-related costs. Where the CAT NMS Plan provides estimates of these costs, the economic analysis evaluates those estimates and re-estimates them when necessary. The economic analysis also discusses the drivers of these costs, and whether broker-dealers may or may not pass these costs down to their customers. In addition, the economic analysis assesses whether the CAT NMS Plan has the potential to result in cost savings. Rule 613 requires the Plan to discuss “[a] plan to eliminate existing rules and systems (or components thereof) that would be rendered duplicative by the consolidated audit trail.” [313] As a part of its consideration of the costs of the CAT NMS Plan, the economic analysis considers costs from duplicative reporting for some period of time as well as potential cost savings from the retirement of duplicative regulatory reporting systems.

The economic analysis also considers whether the CAT NMS Plan could result in second order effects, such as changes to the behavior of market participants, that impose certain costs. For example, the CAT NMS Plan's tiered funding model could lead to costly efforts by market participants to try to control their tiers in order to affect their fee payments, such as reducing activity levels near the end of an activity level measuring period to avoid being classified as a higher activity level firm. In addition, Participants, their members, and investors could incur costs if their private information were accessed in the event of a security breach of the Central Repository. The economic analysis considers these and other elements of the Plan that could lead to distortions in behavior by market participants.

2. Existing Uncertainties

The Commission has carefully analyzed the information in the CAT NMS Plan, as well as other relevant data, in order to assess the economic effects of the Plan. As discussed throughout the analysis, in certain cases the Commission lacks information needed to evaluate all of the potential economic effects of the CAT NMS Plan, creating uncertainty in some potential benefits and costs. The primary drivers of uncertainty include the fee schedule applicable to funding the Central Repository (the “Funding Model”), which has not yet been finalized, the deferral of decisions on certain discretionary elements including the Technical Specifications applicable to the CAT, and a lack of detailed information that would enable the Commission to assess certain economic effects with greater precision. The implications of each primary area of uncertainty for the Commission's economic analysis are discussed below.

First, as noted above, the economic analysis evaluates information provided in the CAT NMS Plan on the economic effects of the Plan, as well as information drawn from outside of the Plan. However, the Commission lacks detailed information regarding some of the individual costs and discretionary decisions in the Plan, including the Funding Model. Specifically, the Plan does not outline the proportion of CAT costs that would be allocated to Participants versus broker-dealers. This uncertainty limits the Commission's ability to evaluate the economic effects of the Plan in some cases. However, the Commission has analyzed the expected economic effects of the Plan to the extent possible with the information available, and where the Commission can identify such areas of uncertainty, the economic analysis addresses this uncertainty. In addition, the Commission requests comments to help resolve such uncertainties during the consideration of the CAT NMS Plan.

Second, certain elements of the CAT NMS Plan would not be finalized until after the selection of a “Plan Start Printed Page 30656Processor.” [314] Among these are the security and confidentiality procedures of the Central Repository,[315] the precise methods by which regulators would access data in the Central Repository,[316] and the complete Technical Specifications.[317] The Plan also provides the Plan Processor the “sole discretion” to publish interpretations of the Technical Specifications, including interpretations of permitted values in data elements.[318]

Because these and other elements of the Plan have not yet been finalized, the Commission cannot assess how and to what extent they could affect the overall economic effects of the Plan. The Commission's economic analysis is therefore limited to the extent that the economic effects of the Plan depend on decisions that would be made after approval of the Plan. However, the Commission has identified these areas of uncertainty and has assessed the economic effects of the Plan to the best of its ability in light of these existing uncertainties.

Given the range of possible outcomes with respect to both the costs and benefits of the CAT NMS Plan that depend on future decisions, the Commission also recognizes the importance of provisions of the Plan related to the operation and administration of the CAT. In particular, governance provisions of the Plan related to voting by the Operating Committee and the involvement of the Advisory Committee may help promote better decision-making by the relevant parties. Such provisions could mitigate concerns about potential uncertainty in the economic effects of the Plan by giving the Commission greater confidence that its expected benefits would be achieved in an efficient manner and that costs resulting from inefficiencies would be avoided. As part of this economic analysis, the Commission therefore considers these features of the Plan.[319]

3. Request for Comment on the Framework

The Commission requests comment on all aspects of the Framework for the Economic Analysis on the CAT NMS Plan. In particular, the Commission seeks responses to the following questions:

234. Do Commenters believe that the general economic framework applied in this analysis is appropriate? If not, which considerations should be added or removed?

235. Do Commenters agree with the approach to identifying benefits of the CAT NMS Plan? Are there important sources of benefits that are not discussed here? Are the data qualities important for regulatory uses? Are there additional data qualities that the Commission should consider? Are the regulatory objectives important and beneficial for investors? Are there additional regulatory objectives that the Commission should consider?

236. Do Commenters agree with the approach taken in this analysis for examining the costs of CAT? Please explain.

237. Do the Commenters agree with the approach for analyzing second order effects? Are there other sources of economic effects that the Commission should consider?

238. Do Commenters agree with the Commission's characterization of uncertainties in the economic analysis? How important are these uncertainties to the Commission's consideration of the CAT NMS Plan? Are there other sources of uncertainty that the Commission should consider?

239. Do Commenters agree with the Commission's preliminary assessment that governance provisions of the Plan related to voting by the Operating Committee and the involvement of the Advisory Committee may help promote better decision-making by the relevant parties and thus mitigate concerns associated with uncertainties in the economic effects of the Plan? Please explain.

D. Baseline

The CAT NMS Plan would create a new regulatory dataset that SROs and the Commission would use to supplement or replace their current data sources. The Adopting Release states that “improvements [in the quality of audit trail data] should have the potential to result in the following: (1) [I]mproved market surveillance and investigations; (2) improved analysis and reconstructions of broad-based market events; and (3) improved market analysis.” [320] To assess the overall economic impact of the CAT NMS Plan, the economic analysis uses as the Baseline the current state of trade and order data and the current state of regulatory activity that relies on that data. The Baseline discusses the currently available sources of data, limits in available data that could impact regulatory activity, how regulators currently use the available data, and the burden that producing that data imposes on SROs and broker-dealers.

1. Current State of Regulatory Activities

The SROs and the Commission use data to analyze and reconstruct market events, conduct market analysis and research in support of regulatory decision-making, and conduct market surveillance, examinations, investigations, and other enforcement functions. The trend in this area is to use more automated and data-intensive methods as regulators' activities adjust to the data and technology available. The following Sections describe these regulatory activities and how regulators currently use data.

a. Analysis and Reconstruction of Market Events

In the Adopting Release, the Commission described how it expected CAT Data to significantly improve the ability of regulators to reconstruct market events so that the public might be informed by an accurate and timely accounting of the events in question.[321] In a market reconstruction, regulators seek to provide an accurate and factual accounting of what transpired during a market event of interest by conducting a thorough analysis of the available market data. These events often encompass activity in many securities across multiple trading venues, requiring the linking and analysis of data from multiple sources. Examples of recent market reconstructions include the Commodity Futures Trading Commission (“CFTC”) and SEC's analysis of the May 6, 2010 “Flash Crash,” [322] analysis of equity market Start Printed Page 30657volatility on August 24, 2015,[323] and the multi-agency report on the U.S. Treasuries market on October 15, 2014.[324]

b. Market Analysis and Research

In the Adopting Release, the Commission described how it expected CAT Data to improve the ability of regulators to monitor overall market structure and better understand its relationship with market behavior, so that the Commission and the SROs could be better informed in their policy decisions.[325] The Commission and SRO Staffs conduct data-driven analysis on market structure, in direct support of both rulemaking and other regulatory decisions such as SRO rule approvals as well as retrospective analyses of rules and pilots. The Commission also relies on data analysis to inform its market structure policy. SROs also conduct market analysis and research on their own regulatory initiatives. Examples of data-driven market analysis include reports on OTC trading,[326] small capitalization stock trading,[327] the Limit Up-Limit Down Pilot,[328] short selling,[329] and high frequency trading.[330]

c. Market Surveillance and Investigations

Regulators perform market surveillance and investigation functions that rely on access to multiple types of market data. In the Adopting Release, the Commission discussed how data limitations impact surveillance and investigations, including risk-based examinations, market manipulation investigations, tips and complaints, and cross-market and principal order surveillance.[331] The following Sections update and broaden the discussion from the Adopting Release to describe the current state of SRO surveillance and SRO and Commission examinations and enforcement investigations.

(1) Current SRO Surveillance

Rule 613(f) requires the SROs to develop and implement a surveillance system, or enhance existing surveillance systems, reasonably designed to make use of the CAT Data.[332] For the purposes of this economic analysis, the Commission considers surveillance to involve SROs running automated processes on routinely collected or in-house data to identify potential violations of rules or regulations. As such, surveillance does not include processes run on data that the SROs request only when needed. SRO surveillance can help protect investors by having systems in place that can be used to detect fraudulent behavior and anomalous trading. For instance, SROs use surveillance systems, developed internally or by a third party, to detect violations of trading rules, market abuse, or unusual behavior, in real time, within one day, or within a few weeks of the activity in question. The exchanges are responsible for surveillance of their own exchanges, and FINRA is responsible for off-exchange and cross-market surveillance. FINRA also provides surveillance services to U.S. equity and options exchanges through regulatory services agreements with nearly every equity market and all options exchanges.[333] FINRA also currently conducts several cross-market surveillance patterns, such as surveillance focused on wash sales, front running, relationship trading, and high frequency trading.

FINRA has responsibility to oversee and regulate OTC trading of exchange-listed and non-exchange-listed securities, as well as trading in corporate and municipal debt instruments and other fixed income instruments. Also, FINRA conducts cross-market surveillance for approximately 99% of the listed equity market and approximately 70% of the listed options market.[334] To conduct cross-market surveillance, FINRA uses a variety of online and offline surveillance techniques and programs to reconstruct market activity, using trading data and quote information that is captured throughout the trading day, as well as order audit trail data reported daily. FINRA's cross-market surveillance is able to identify a single broker-dealer's manipulative activity across multiple markets, as well as manipulative activity of multiple market participants acting in concert across multiple markets.[335]

Additional surveillance is conducted by exchange-operating SROs, some of it Start Printed Page 30658conducted as trading activity occurs. This surveillance can include detection of market manipulation, violations of trading rules, and other unusual behavior.

(2) Examinations

In the Adopting Release, the Commission explained how it expected CAT Data to facilitate risk-based examinations.[336] SROs currently conduct exams of broker-dealers for violations of trading-related federal laws, rules, and regulations and for violations of SRO rules and regulations.[337] In 2015, FINRA's Member Regulation Department conducted approximately 2,400 broker-dealer examinations.[338] The Commission currently conducts exams of broker-dealers, transfer agents, investment advisers, investment companies, municipal advisers, clearing agencies, the national securities exchanges, other SROs such as FINRA and the Municipal Securities Rulemaking Board, and the Public Company Accounting Oversight Board (“PCAOB”). The Commission conducted 493 broker-dealer examinations in 2014 and 484 in 2015, 70 exams of the national securities exchanges and FINRA in 2014 and 21 in 2015. In addition, the Commission conducted 1,237 investment adviser and investment company examinations in 2014 and 1,358 in 2015. Virtually all investment adviser examinations and a significant proportion of the Commission's other examinations involve analysis of trading and order data.

Examinations of broker-dealers and investment advisers involve intensive analysis of trading data. Examinations seek to determine whether the entity being examined is: Conducting its activities in accordance with the federal securities laws, rules adopted under these laws, and SRO rules; adhering to the disclosures it has made to its clients, customers, the general public, SROs and/or the Commission; and implementing supervisory systems and/or compliance policies and procedures that are reasonably designed to ensure that the entity's operations are in compliance with the applicable legal requirements.[339]

The Commission and certain SROs, such as FINRA, use a risk-based approach to select candidates and to determine exam scope and focus.[340] “Risk-based examinations” seek to increase regulatory efficiency by using preliminary data analysis to direct examination resources towards entities and activities where risks of violative or illegal activity are the highest. The Commission uses risk and data analysis before opening an exam to identify broker-dealers and investment advisers for areas of focus such as suspicious trading, as well as during an exam to identify the particular activities of a broker-dealer or investment adviser that could trigger certain compliance and supervisory risks.

Because of the data-intensive nature of examinations, the Commission and SROs have systems, such as the Commission's National Exam Analytics Tool (“NEAT”), to combine, standardize, and analyze exam data. The NEAT system allows examiners to import trade blotter data to conduct commission analysis, cross trades analysis, bunch price analysis, trading pattern analysis, and restricted trade analysis. However, as discussed further below, there are limitations on the trade blotter data imported by the NEAT system.[341]

(3) Enforcement Investigations

The Adopting Release details how the Commission expects the CAT Data to aid in the analysis of potential manipulation.[342] The Commission and SROs undertake numerous investigations to enforce the securities laws and related rules and regulations, including investigations of market manipulations (e.g., marking the close, order layering, spoofing,[343] wash sales, trading ahead), insider trading, and issuer repurchase violations. As noted below, the Commission estimates that 30-50% of enforcement investigations use trade and order data, and any of these types of investigations, in addition to numerous other investigations, could potentially utilize CAT Data.[344]

SROs rely primarily on surveillance to initiate investigations based on anomalies in the trading of securities. The Commission initiates enforcement investigations when SROs or others submit reliable tips, complaints, or referrals, or when the Commission becomes aware of anomalies indicative of manipulation. After the detection of potential anomalies, a tremendous amount of time and resources are expended in gathering and interpreting trade and order data to construct an accurate picture of when trades were actually executed, what market conditions were in effect at the time of the trade, which traders participated in the trade, and which beneficial owners were affected by the trade. In 2015, the Commission filed 807 enforcement actions, including 39 related to insider trading, 43 related to market manipulation, 124 related to broker-dealers, 126 related to investment advisers/investment companies, and one related to exchange or SRO duties. In 2014, the Commission filed 755 enforcement actions, including 52 related to insider trading, 63 related to market manipulation, 166 related to broker-dealers, and 130 related to investment advisers/investment companies, many of which involved trade and order data.[345] Similarly, FINRA brought 1,397 disciplinary actions in 2014 and 1,512 in 2015.[346]

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(4) Tips and Complaints

The Adopting Release discussed how the Commission expected CAT Data to improve the processes used by the SROs and the Commission for evaluating tips and complaints.[347] Market participants or those with experience in analyzing market data sometimes notice atypical trading or quoting patterns in publicly available market data, and these observations sometimes result in a tip or complaint to a regulator. Regulators investigate thousands of tips and complaints each year. In fiscal years 2014 and 2015, the Commission received around 15,000 entries in its Tips, Complaints and Referrals (“TCR”) system, approximately one third of which related to manipulation, insider trading, market events, or other trading and pricing issues.

Analysis of tips and complaints follows three general stages. First, regulators ensure that the tip or complaint contains sufficient information to facilitate analysis. The second stage involves a triaging effort in which regulators may use directly accessible data or make phone calls and other informal queries to determine if the tip or complaint is credible. For tips and complaints that seem credible, the third stage involves a more in-depth investigation or examination, which follows the processes described above for examinations and enforcement investigations.

2. Current State of Trade and Order Data

To assess how and to what degree the CAT NMS Plan would affect the trade and order data available to regulators, the economic analysis considers what data regulators use currently and the limitations in that data.

a. Current Sources of Trade and Order Data

The SROs and the Commission currently use a range of trading and order data sources for the regulatory activities discussed above. The types of data and ease of use can vary widely from one source to the next. Some data sources provide access to in-depth information on a narrow slice of the market, while others reveal more limited information but with broader market coverage. This Section reviews the primary sources of data currently available to regulators, describing the content of the data provided and examples of their specialized uses. There are limitations on each of the data sources discussed below that reduce their usefulness for regulatory purposes. These limitations and their impact on the ability of the SROs and the Commission to use the data sources for regulatory purposes are explained in Section IV.D.2.b below.

(1) SRO Data

Most SROs maintain audit trails that contain the trade and order data that they obtain from members. Regulators have access to at least three sources of audit trail data. First, the National Association of Securities Dealers (“NASD”) [348] established its Order Audit Trail System (“OATS”) [349] in 1998, which required NASD (n/k/a FINRA) members to report certain trade and order data regarding NASDAQ-listed equity securities.[350] OATS was later expanded to include OTC equity securities and all NMS stocks.[351] Second, beginning in 2000, several of the current options exchanges implemented the Consolidated Options Audit Trail System (“COATS”).[352] Finally, each equity and options exchange keeps an audit trail of orders and trades that occur on its market.[353]

Specifically, for each of these stages in the life of an order, FINRA Rule 7440 requires the recording and reporting of the following information, as applicable, including but not limited to: For the receipt or origination of the order, the date and time the order was first originated or received by the reporting member, a unique order identifier, the market participant symbol of the receiving reporting member, and the material terms of the order; [354] for the internal or external routing of an order, the unique order identifier, the market participant symbol of the member to which the order was transmitted, the identification and nature of the department to which the order was transmitted if transmitted internally, the date and time the order was received by the market participant or department to which the order was transmitted, the material terms of the order as transmitted,[355] the date and time the order was transmitted, and the market participant symbol of the member who transmitted the order; for the modification or cancellation of an order, a new unique order identifier, original unique order identifier, the date and time a modification or cancellation was originated or received, and the date and time the order was first received or originated; [356] and for the execution of an order, in whole or in part, the unique order identifier, the designation of the order as fully or partially executed, the number of shares to which a partial Start Printed Page 30660execution applies and the number of unexecuted shares remaining, the date and time of execution, the execution price, the capacity in which the member executed the transaction, the identification of the market where the trade was reported, and the date and time the order was originally received. FINRA Rule 7440 also requires reporting of the account type,[357] the identification of the department or terminal where an order is received from a customer, the identification of the department or terminal where an order is originated by a reporting member, and the identification of a reporting agent if the agent has agreed to take on the responsibilities of a reporting member under Rule 7450.

A majority of options exchanges require their members to provide the following information with respect to orders entered onto their exchange: (1) The material terms of the order; [358] (2) order receipt time; [359] (3) account type; (4) the time a modification is received; (5) the time a cancellation is received; (6) execution time; and (7) the clearing member identifier of the parties to the transaction.[360]

Although SROs that operate exchanges collect much of their audit trail information directly from their internal systems, broker-dealers also have the responsibility to report regulatory data to SRO audit trails. Some broker-dealers perform nearly all of these data reporting requirements in-house, whereas others contract with service bureaus to accomplish this data reporting.[361] This reporting can represent a significant burden on broker-dealers.

Audit trail data have become more useful to regulators over time. As noted above, FINRA expanded OATS from covering only NASDAQ listed securities to include OTC equity securities and all NMS stocks.[362] Commission Staff understands that FINRA has also begun collecting additional SRO audit trail data, provided voluntarily from most exchanges, to supplement OATS data. In addition, NYSE, NYSE Amex LLC (n/k/a “NYSE MKT LLC”) (“NYSE Amex”), and NYSE ARCA, Inc. (“NYSE Arca”) eliminated their OTS audit trail requirements and replaced them to coordinate with the OATS requirements, so that members who are also members of either FINRA or NASDAQ (and therefore subject to OATS requirements) are able to satisfy their reporting obligations by meeting the OATS requirements.[363] As a result of all of these changes, the combined data from these different audit trails [364] now cover most order events in equities.

SRO audit trail data is used for market reconstructions and market analyses, and to inform policy decisions, both by the Commission and by SROs. Regulators also use SRO audit trail data extensively for surveillance, examinations, investigations, and other enforcement functions. Current SRO market surveillance relies primarily on data from the SRO audit trails, generated directly from the exchange servers and from OATS. Likewise, SRO examinations and investigations pull information from their own audit trails before seeking data from others. Commission examinations and investigations also rely heavily on SRO audit trails to start the process of tracing a particular trade from its execution to the order initiations and customer information, and the audit trails can be useful for manipulation investigations or other regulatory activities that require analyses of microcap securities trading activity. There are, however, limitations on SRO audit trail data that reduce their usefulness to regulators. For example, for the examinations mentioned above, Commission examination Staff may undertake a laborious process of linking SRO audit trail data with EBS data, because SRO audit trail data does not contain customer information.[365] These and other limitations are discussed in Section IV.D.2.b, infra.

(2) Equity and Option Cleared Reports

The SROs and Commission also have access to equity and option cleared reports. Clearing broker-dealers report their equity and option cleared data on a daily basis and the NSCC and the OCC aggregate the data across the market and generate the reports.[366] The reports show the number of trades and daily cleared trade and share volume, by clearing member, for each equity and listed option security in which transactions took place. Regulators can query these reports directly through an internal online system that interfaces with the Depository Trust and Clearing Corporation (“DTCC”) data by security name and CUSIP number.[367] The Start Printed Page 30661originating source of the DTCC cleared equity data is the Securities Information Automation Corporation (“SIAC”) and the originating source of the cleared options data is the OCC.

Equity and option cleared reports provide a way for regulators to directly access a dataset to see how much trading volume is accounted for by a particular clearing broker. As such, these data are often used at the beginning of an examination or investigation to start identifying the market participants that may have additional data needed to pinpoint a particular activity. But there are limitations on these reports that reduce their usefulness to regulators. For example, the information available on the reports is limited to the date, the clearing firm, and the number of transactions cleared by each clearing firm on each SRO. These and other limitations are discussed in Section IV.D.2.b, infra.

(3) Electronic Blue Sheets

Broker-dealers provide detailed data to regulators in the form of EBS. The EBS data, provided pursuant to Rule 17a-25 under the Act,[368] facilitate investigations by the SROs and Commission Staff, particularly in the areas of insider trading and market manipulations. The EBS system provides certain detailed execution information in its electronic format [369] upon request by SRO or Commission Staff. This information often includes the employer of the beneficial owner of an account,[370] which can be important to insider trading investigations, and in some cases, a tax identification number.[371]

The EBS system also provides additional information on market participants who meet the definition of “large traders” and have self-identified to the Commission as required by Rule 13h-1.[372] Large traders who file Form 13H with the Commission are assigned a “large trader identification number” by the Commission and must provide that number to their brokers for inclusion in the EBS records that are maintained by the clearing brokers. Rule 13h-1, subject to relief granted by the Commission,[373] requires that execution time be captured (to the second) for certain categories of large traders. Large trader data provide the Commission with a way to acquire information about the activities of large traders and allow the activities of large traders to be more readily aggregated across or partitioned by multiple broker-dealers. Regulators generally use data from the EBS system extensively in enforcement investigations, for which EBS data are vital, particularly insider trading investigations. But again, there are limitations on EBS data. For example, EBS data are cumbersome to use for broad analyses, such as analysis and reconstruction of market events, market analysis and research, and some examinations, because of the fragmentation of the data. These and other limitations are discussed in Section IV.D.2.b, infra.

(4) Trade Blotters and Order Tickets

Investment advisers and broker-dealers maintain data in the form of order tickets and trade blotters that regulators can obtain on request.[374] Order tickets are in-house records maintained by investment advisers and broker-dealers that provide order details, including time stamps of order initiation and placement, special order types, any special instructions for the order, and plans for the allocation of shares and prices across accounts and subaccounts. Order tickets also identify account owners. Commission Staff collects order tickets regularly for examinations, and occasionally also for market manipulation investigations.

Broker-dealers maintain data in trade blotters that are similar to EBS. However, the trade blotters also contain more information, including the commissions paid in executing each order, time stamps of when an order is received and when it is executed (and the number of fills), and the pricing information for all executions in the order.[375] SROs use trade blotters in examinations of their members. Commission Staff uses trade blotters frequently for examinations, including in almost every broker-dealer, investment adviser, and hedge fund examination, as well as for insider trading and market manipulation investigations. Regulators use trade blotter data to determine the order entry time and execution time for trades by a particular customer in examinations and enforcement investigations. Trade blotters are also the primary data source used in regulatory investigations for which subaccount allocation information is important for determining violative behavior, such as cherry-picking and front-running cases. There are limitations on trade blotter and order ticket data that reduce their usefulness to regulators, however. For example, regulators lack direct access to these data; in order to acquire trade blotter and order ticket data, regulators need to send a request to each individual broker-dealer to obtain its data, which can be a lengthy and cumbersome process. These and other limitations are discussed in Section IV.D.2.b, infra.

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(5) Trading and Order Handling System Data

Broker-dealers and exchanges also collect and maintain records of activity in their order handling systems and internal matching systems.[376] This data may include order receipt, modification or routing information not otherwise reported to SROs. Some elements of these data exceed the scope of information captured in EBS, SRO audit trail, trade blotter, or order ticket data; for example, SRO audit trail data sometimes excludes market-making activity. But certain market making activity is included in the data that broker-dealers and exchanges are required to maintain pursuant to Section 17(a) of the Act [377] and Rule 17a-3 thereunder.[378] Regulators use these trading and order handling system data in investigations and examinations to further analyze issues discovered during their analysis of data from other sources. Like other current sources of data, there are limitations on trading and order handling system data that reduce their usefulness to regulators. For example, a lack of standardization results in variations in trading and order handling system data across broker-dealers. These and other limitations are discussed in Section IV.D.2.b, infra.

(6) Public Data

Exchanges and SROs also make data available to the public, in some cases on a commercially-available basis,[379] that regulators could access for their regulatory activities. One type of public data is “consolidated” data feeds that are disseminated by registered Securities Information Processors (“SIPs”) pursuant to joint SRO plans.[380] For a fee, the SIPs distribute consolidated market data on recent equity and option transactions and the prevailing best quotes at each exchange to market data subscribers. In addition, all exchanges also make data available through direct data feeds. These feeds contain all data included in the SIP feed, but also include depth of book information [381] and, depending on the exchange, may include additional data, such as the submission, cancellation and execution of all displayed orders and auction imbalance information on the exchange, among other things.

The SEC's Market Information Data Analytics System (“MIDAS”) uses information disseminated by the SIP feeds, as well as exchange direct feeds consisting of data that individual exchanges choose to sell to subscribers. In addition, at the request of Commission Staff, most equities exchanges produce and make public two datasets with information on short sales: A file of short selling volume by stock, which contains the short selling and total volume on that exchange by symbol, and a file of short selling transactions, which contains trade information such as time, volume, and price for each transaction involving a short sale.[382]

The Commission and SROs use these publicly available trade and order data to conduct market analyses, market reconstructions, examinations, and investigations. Because of the accessibility and ease of use of the public data, regulators often use it as a starting point or a basis of comparison to other data sources. For example, real-time surveillance can rely on SIP data, and some insider trading surveillance relies on information from other publicly available sources such as news sources. Further, investigations into short sale market manipulation sometimes start with an analysis of the short selling data. Some market analyses by regulators rely on public data alone.[383] However, there are limitations on these data that reduce their usefulness to regulators. For example, they do not provide customer information, order entry time, information about special order handling codes, counterparties, or member identifiers. These and other limitations are discussed in Section IV.D.2.b, infra.[384]

b. Current Limitations of Trade and Order Data

Although regulators have access to trade and order data from the sources described above,[385] the available data are, for various reasons, limited in terms of the four qualities discussed above. In terms of completeness, current sources do not represent all of the market activity of interest in sufficient detail in one consolidated audit trail. In terms of accuracy, current sources may reflect data errors, insufficiently granular clock synchronization and time stamps, errors introduced in the process of combining data from different sources, a lack of consistent customer and broker-dealer identifiers, and data that is too aggregated at the record level to provide the information regulators need. With respect to accessibility, the SROs and Commission lack direct access to most of the data sources described above, and with respect to timeliness, obtaining trade and order data from current sources and converting the data into a form in which they can be analyzed can involve a significant delay from the time of a particular event of interest.[386] The qualities of market data are important to the Commission's ability to fulfill its statutory mission in an efficient and effective manner. As a result of the limitations on current data sources, regulators are limited in their ability to perform the activities outlined in Section IV.D.1, above. Table 2: Currently Available Data Sources summarizes the key characteristics of the currently available data sources, which are discussed in more detail below.

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(1) Completeness

“Completeness” refers to whether the data represents all market activity of interest or just a subset, and whether the data is sufficiently detailed to provide the required information.[391] While current data sources provide trade and order data specified by existing rules and regulations, those sources do not contain all market activity that might be required for certain market inquiries, in sufficient detail, within one consolidated audit trail. To obtain information regarding a particular market event, regulators may have to piece together information from different data sources. Further, some data is not required to be reported at all under existing regulations.[392] Therefore, current data sources either cover only a limited number of events and products, or lack some data fields that would be useful to regulators, each of which impedes effective market surveillance.

A. Events and Products

There is currently no single data source that covers all market activities. EBS data contains executed trades but does not contain information on orders or quotes (and thus does not provide information on routes, modifications, or cancellations). Similarly, trade blotters and order tickets contain only information recorded by that particular broker-dealer or investment adviser and may contain limited information about full order lifecycles. SRO audit trail data are limited to identifying the activity of their members, can have incomplete information concerning their members, lack order lifecycle information occurring prior to receipt by an exchange, and may not contain information regarding principal trading. Furthermore, public consolidated and direct data feeds provide data about the entire market, but lack information regarding non-displayed orders and do not provide sufficient information to identify the different lifecycle events of a single order.

Individual SRO audit trails are extensive but still incomplete in their coverage of the activities of the market participants they cover; they contain only activity of their own members and many do not necessarily contain all activity by their members. For example, FINRA's OATS data does not include proprietary orders originated by a trading desk in the ordinary course of a member's market making activities, or options data. And while OATS collects data from FINRA members with respect to orders and trades involving NMS and OTC stocks, OATS does not include trade or order activity that occurs on exchanges or at broker-dealers that are not FINRA members.[393] In addition, while broker-dealers who are not members of FINRA must be members of an exchange SRO, an individual exchange SRO's audit trail data is generally limited to activity taking place on that exchange.[394] Because broker-dealers who are not members of FINRA may engage in trading activity in off-exchange markets, a substantial portion of the trading activity that an exchange SRO supervises is not reported to the supervising SRO.[395]

Further, not all FINRA members are obligated to report to OATS. FINRA's rules exempt from reporting certain members that engage in a non-discretionary order routing process.[396] Additionally, FINRA has the authority to exempt other members who meet specific criteria from the OATS recording and reporting requirements, and has granted approximately 50 such exemptions.[397]

Exchange audit trails also lack information on the order lifecycle events that occur prior to receipt at the exchange.[398] SRO audit trail data available from the Intermarket Surveillance Group (“ISG”) [399] does not Start Printed Page 30665capture quotes/orders away from a market's inside market (i.e., those quotes/orders below the best bid or above the best offer); currently identify market participants in a trade only to the clearing broker level; do not provide information on the executing broker; and contain certain data fields that are not mandatory.[400]

Additionally, some SRO audit trails do not include and are not required to include activity associated with principal trading, such as market-making activity. This may result in the exclusion of a significant amount of activity, particularly for firms with substantial market-making business activities. Principal trading activity represents a significant portion of market activity and there are aspects of the current market regime that may result in the underreporting of this trading activity. Indeed, an analysis by Commission Staff estimates that principal trading accounted for 40.5% of all reported transactions and principal activity accounted for 67% of all exchange message traffic.[401] And, because these figures do not capture principal activity done by trading on-exchange through other broker-dealers, these estimates are likely to be biased downwards.[402]

Finally, no single current data source integrates both equities and options. The lack of any combined equity and options audit trail data is a significant impediment to regulators performing cross-product surveillance.[403]

B. Data Fields

Each of the available data sources discussed above [404] is missing certain data fields that are useful for conducting a variety of regulatory activities. Furthermore, certain valuable data fields are not contained in any of the data sources discussed above. For example, the lack of completeness in the data sources makes it impossible to use certain key information, such as customer identifiers and allocation information, in market surveillance. Further, even for single-security events within a single trading venue, regulators may need to seek data from multiple sources such as an SRO audit trail and EBS.[405]

Most notably, the identity of the customer is unavailable from all current data sources that are reported to regulators on a routine basis. A unique customer identifier could be useful for many types of investigations and examinations such as market manipulation investigations and examinations of investment advisers. As noted above, some data sources—specifically Large Trader, EBS, trade blotters, and order tickets—identify customers.[406] But these data sources are not reported on a routine basis, provide only one part of the order lifecycle, and have other inherent limitations.

Because there is currently no data source that includes customer identities across multiple parts an order lifecycle,[407] regulators must engage in a process of linking EBS, trade blotters and order tickets with SRO audit trails, which can be a burdensome and imperfect process.[408] For example, trade blotter and order ticket data that identifies customers from one broker-dealer may only include customer names and thus may not be readily matched to similar data from another broker-dealer, or may require substantial effort and uncertainty to reconcile across firms. Further, EBS data's limited coverage of trading activity and lack of some detailed trade information creates inefficiencies in insider trading investigations. These investigations often begin with a request for EBS data of trades before a significant corporate news event that affected a company's stock price. After identifying accounts that made suspicious trades, investigators often request additional EBS data of all trades by the accounts during the same period. If the additional data reveal suspicious trades by the accounts of the securities of other companies, investigators often must make a third round of EBS requests for data of trades by all accounts in those securities. If trading is done in an omnibus account, Commission Staff must ask firms to provide the identity of the account holder, and then request account information. To investigate for manipulation (e.g., marking the close, order layering, spoofing,[409] wash sales, trading ahead), Commission Staff may also link data from multiple sources. First, Commission Staff obtains equity and option cleared reports from an internal online system that interfaces with data provided by the DTCC. Because the equity and option cleared reports do not have trade details, Commission Staff may also request trade information through EBS submissions from one or multiple firms. If a trade was executed on behalf of another firm, Commission Staff may then contact the other firm, until Staff can find out who placed the trade and the account holder. The Commission may then obtain granular trade information that contains order entry time and order execution time from firms or brokers via request or subpoena.[410]

The methods for obtaining such information significantly reduce its utility, particularly for surveillance and market reconstruction purposes. Market reconstructions, for example, cannot take advantage of the detail in the EBS and trade blotter data because of the resources required to link so many data sources, lack of necessary elements (such as time stamps in milliseconds) needed to link data sources (for example, matching large trader reports to activity on a particular exchange), or the absence of standardized format. To examine a tip or complaint, regulators may consolidate data from each affected Start Printed Page 30666market participant to determine the identities of those responsible for the atypical activity in question. To the extent that the activity originates from several market participants, regulators must request data from each of those market participants, and possibly other market participants, to obtain information that could identify the customer(s) originating the orders that created the atypical activity.

For many regulatory activities, lack of completeness results in regulators initially relying upon the most accessible data sources, with significant information contained only in data sources made available by request. Starting regulatory functions with incomplete data sources requires regulators to later make data requests and link such data request responses. More importantly, however, incomplete or unconsolidated data interferes with effective surveillance. Access to data through non-routine means makes investigations and examinations less efficient, and makes automated surveillance less accurate and less effective. For example, the publicly available data discussed above [411] identify exchanges but lack most of the fields found in some SRO audit trails or EBS, such as customer information, order entry time, order execution time, information about special order handling codes, counterparties, and member identifiers. Similarly, equity cleared reports contain only the date, the clearing firm, and the volume cleared by each clearing firm and not the trade size, trade time, or trade location. Option cleared reports contain only the date, the clearing firm, number of customer contracts, and number of firm contracts for the options.

Some valuable data fields, such as modifications that make an order non-displayed and other special handling instructions are consistently available on only a few data sources or require linking different data sources.[412] The lack of direct, consistent access to order display information and special handling instructions creates inefficiencies in surveillances, examinations, and investigations that examine hidden liquidity and the treatment of customer orders. Data that are not directly accessible by regulators at all include buy-to-cover information and subaccount allocation information, including the allocation time. For example, no current data source allows regulators to directly identify when someone is buying to cover a short sale. Regulators could use this information to better understand short selling and for investigations of short sale manipulation. Indeed, the absence of this information during the financial crisis in 2008 reduced the efficiency of the reconstruction of investor positions in financial companies.[413]

Subaccount allocation information needed for regulatory activities can be difficult for regulators to collect and compile. SRO audit trails currently do not require allocation reports and broker-dealers may not have records of the time of a subaccount allocation. When regulators require an understanding of subaccount allocations for a regulatory task, they generally request and sift through trade blotter or EBS data in an attempt to identify allocations and the details of those allocations. Current trade blotter data contains limited customer information on allocations and is not required to contain allocation time information at the subaccount level. While the Commission is sometimes able to acquire allocation time on trade blotters, not all broker-dealers keep records in a manner that facilitates efficient regulatory requests for allocation time information.

The difficulty in obtaining allocation information and the difficulty in reconstructing allocations with data from broker-dealers limits the efficiency of certain surveillances and examinations. Allocation time at the subaccount level is critical for determining whether some customers are systematically given more favorable allocation treatment than others. For example, when a broker-dealer places an order or series of orders for multiple customer accounts that generates multiple executions at multiple prices, it is possible that different customers receive different prices in the allocation process. However, if some customers systematically receive less favorable prices than others when they should be receiving the same prices for their executions, this could indicate that the broker-dealer is handling allocations improperly.[414]

(2) Accuracy

In the Adopting Release, the Commission noted that while “to some extent, errors in reporting audit trail data to the central repository will occur,” the CAT NMS Plan would improve the quality of data including improvements to accuracy.[415] Therefore, the economic analysis carefully considers the Baseline of the accuracy of data regulators currently use in order to consider whether and to what degree the CAT NMS Plan would provide more accurate data.

The prospect of inaccurate data can result in regulators expending extra resources to run additional quality checks to ensure reliable data and conclusions in enforcement investigations, or being unable to draw reliable conclusions at all. In addition, risk-based analysis may not properly identify a potential risk that justifies further examination if the underlying data suffers from inaccuracies. Ultimately, inaccurate data results in less efficient investigations as well as less effective surveillance and risk analyses. This economic analysis considers several forms of data inaccuracy, including data errors, inaccurate event sequencing, the inability to link data accurately, inconsistent identifiers, and obfuscating levels of irreversible data aggregation.

A. Data Errors 416

Based on Staff experience, the Commission preliminarily believes that data errors affect most current data and can persist even after corrections. For Start Printed Page 30667example, Commission Staff has investigated instances where information was inaccurately reported by broker-dealers, most notably in EBS data given to the Commission.[417] In addition, the Commission believes that data sources that depend on data translated from back-office systems can be less accurate than those that come from trading systems, such as trade blotters and data sourced from exchanges' electronic trading systems, because the data translation process creates an additional source of potential errors in code that may not work as intended. Data from trading systems can also contain errors resulting from a coding error in the query pulling the data. Such coding errors can affect any data including trade blotters. For example, trade blotters are stored using the ticker symbol in effect at the time of the trade. If the ticker symbol changes between the trade and the data request, the coding may fail to take the ticker symbol change into account and fail to retrieve the correct data. The Commission has found that trade blotter data can often be inaccurate due to improper inclusion of cancelled orders or corrections, making accurate reconciliation difficult. Furthermore, trade blotter data can lack security information including CUSIP, symbol, or description at the subaccount level, which are important features for helping regulators determine potential violations.[418]

Audit trail data contain errors, as well. The CAT NMS Plan reports that 2.42% of order events submitted to OATS fail validation checks,[419] resulting in the rejection of almost 425,000 reports per day, on average.[420] While FINRA sends these records back to its members to correct, not all data errors are identified because OATS limits error correction requests to records with internal inconsistencies within a given member's submission. In particular, significant error rates in event linking are common because there is no cross-participant error resolution process; FINRA estimates that 0.5% of OATS routing reports directed to another FINRA member broker-dealer cannot currently be linked.[421] The CAT NMS Plan reports that, following the rollouts of three major updates to OATS, 0.86% of Trade Reporting Facility (“TRF”) reported trades could not be matched to OATS execution reports, 3.12% of OATS route reports could not be matched to exchange orders, and 2.44% of inter-firm routes could not be matched to a record of the receiving firm's receipt of a routed order.[422]

Other audit trail data may also contain errors. For example, the Commission notes that exchange SROs populate most of the information with data from their in-house order and trading records, but a few of these exchange SROs also rely on members to complete their audit trails.

B. Event Sequencing

The ability to sequence market events is crucial to the efficacy of detecting and investigating some types of manipulation, particularly those involving high frequency trading, those in liquid stocks in which many order events can occur within microseconds, and those involving orders spread across various markets. In today's market, high frequency and algorithmic traders can react to changes in the market in a few milliseconds or less.[423] Investigations involving algorithmic trading, therefore, can require the ability to sequence the order and trade events to within a few milliseconds; however, regulators relying on currently available data may have difficulty sequencing events that occur within a second on different trading venues or broker-dealer systems.[424] In addition, in one type of trade-based manipulation, a manipulator might build a short position in a stock, submit sell orders designed to decrease the stock price, and finally buy at an artificially low price. To analyze this activity, except when cover orders precede the sell activity, it would be necessary to determine whether the orders intending to create an artificial price came before the orders intending to profit from the artificial price, which becomes difficult when the systems on which order events occurring close in time to each other have clocks that are not synchronized. Further, insufficiently granular time stamps can make sequencing events across venues impossible.

Thus, the sequencing of order events requires both sufficient clock synchronization across market participants and time stamps that are granular enough for accurate sequencing.[425] As discussed below, Start Printed Page 30668current clock synchronization standards make this process difficult.

i. Clock Synchronization

Clock synchronization refers to the synchronization of the business clocks used by market participants for the purposes of recording the date and time of market events to a centralized benchmark clock, often that maintained by the NIST. Clock synchronization helps to ensure that the time stamps used by various participants are consistent, thereby allowing regulators to compare time stamps across participants and to use multiple time stamps to determine the sequence of market events. The ability of regulators to accurately sequence events can be limited by the permitted “offset” between the clocks—i.e., the length of the gap that is permitted between a participant's clock and the time maintained by a centralized benchmark clock.[426] For example, if the offset between the clocks is one second, regulators cannot accurately determine the correct sequence of events in the market occurring within a two-second period, because each clock may be up to one second fast or slow.

Current rules require most broker-dealers to synchronize their system clocks to within one second. In particular, FINRA specifies a clock offset tolerance of one second,[427] and the NASDAQ Stock Market and NASDAQ OMX BX require members to comply with FINRA clock synchronization rules.[428] CHX specifies a clock offset tolerance of 500 milliseconds.[429] NYSE MKT and NASDAQ OMX PSX require members to synchronize their clocks relative to a time source designated by the Exchange, but do not specify the standard.[430] NYSE Arca allows options traders to use any time provider source for clock synchronization as long as the business clocks it uses on the Exchange are accurate to within three seconds of the NIST clock or the United States Naval Observatory Master Clock in Washington DC.[431]

In practice, some broker-dealers currently synchronize their clocks to smaller clock offset tolerances. FIF surveyed market participants to gather information on current broker-dealer clock synchronization practices.[432] The Start Printed Page 30669survey found that 29% of respondents currently synchronize their clocks to permit a maximum clock offset of one second from NIST time.[433] The survey further found that 10% of market participants permit a maximum offset from NIST time that is between 50 milliseconds and one second, 21% of respondents permit a 50-millisecond maximum offset, and 18% of respondents permit a maximum offset that is less than 50 milliseconds. The remaining 22% of survey respondents utilize multiple clock offset tolerances across their systems, ranging from five microseconds to one second. FIF noted that 69% of firms that achieve a maximum clock offset of 50 milliseconds or less are large firms reporting more than three million OATS records per month.

Certain exchanges, the SIPs, and FINRA synchronize their clocks for their trading, recordkeeping, and other systems. According to FIF, all exchange matching engines meet a clock offset tolerance of 50 milliseconds.[434] However, NASDAQ recently stated that all exchanges trading NASDAQ securities synchronize their matching engines and quotation systems to within 100 microseconds.[435] The Commission understands that the NYSE, the options exchanges, and the SIAC SIP have comparable clock synchronization standards. In conversations with Commission Staff, the Participants stated that absolute clock offset on exchanges averages 36 microseconds.[436]

Because multiple order events can occur within timeframes of less than one second, current clock synchronization requirements and practices greatly limit the ability of regulators to accurately sequence order events. To examine, among other things, how many events can be synchronized with current clock offset tolerances, Commission Staff conducted an analysis of the frequency of events using MIDAS data.[437] In the analysis, events are all real-time messages, consisting of trades, orders, modifications, cancellations and updates from exchange direct feeds and trades from the FINRA TRFs. The analysis focused on identifying whether, for each order event, an event at another venue occurred within a given time range.[438] For the purposes of the analysis, events at another venue were called an “unrelated event.” The Commission recognized that order events occurring on the same venue have sequence numbers that allow sequencing even if orders have the same time stamp. Therefore, the analysis considered only whether any unrelated orders existed within a given time range that could complicate the sequencing across the market.[439]

Table 3—Percentage of Events Close to Unrelated Events

Nearest event time stamped withinPercent of unrelated events
EquitiesOptions
2 seconds98.6993.03
1 second97.9590.99
100 milliseconds92.1681.17
50 milliseconds89.1276.59
10 milliseconds83.4964.46
5 milliseconds81.2858.26
2 milliseconds77.9249.30
1 millisecond74.3141.13
200 microseconds57.5321.58
100 microseconds48.0914.51
10 microseconds21.423.13
5 microseconds14.443.12

Table 3 shows that 97.95% of the order events for listed equities and 91% of order events for listed options in the samples occurred within one second of another unrelated order event in the same security. At the other extreme in Table 3, 14.44% of the unrelated order events for listed equities and 3.12% of the unrelated order events for listed options in the same security occurred within 5 microseconds of another order event in the same security. The Commission notes that Table 3 underestimates the true frequency of unrelated events within the given time frames because it includes only order events that are included in the MIDAS data. As such, the analysis is unable to include events such as the placing of hidden orders on exchanges, the placing of orders on an ATS, order originations, order routes, order receipts, and order cancellations and modifications for any order not displayed on an exchange order book. Despite this limitation, Table 3 illustrates how the current frequency of order events makes sequencing unrelated order events difficult.

ii. Time Stamps

Given the frequency with which order events can occur, regulators need sufficiently granular time stamps to sequence events across orders and within order lifecycles. As noted above, even if the clocks recording time stamps have no clock offset, the granularity of the time stamp can limit regulators' ability to sequence events accurately.[440]

Current data sources have different time stamp granularity standards. Many public data sources report time in seconds or milliseconds and some, Start Printed Page 30670including direct data feeds, report time in microseconds or nanoseconds. For example, the Options Price Reporting Authority (“OPRA”) allows for time stamps in nanoseconds and the other SIPs require time stamps in microseconds for equity trades and quotes, whereas the short sale transactional data released by exchanges contains time stamps in seconds.[441] Currently, OATS requires time stamps in milliseconds for firms that capture time in milliseconds, but does not require members to capture time in milliseconds.[442] EBS trade times are recorded only to the second; other EBS records must contain time stamps containing only the transaction date. The lack of uniform and granular time stamps can limit the ability of regulators to sequence events accurately and to link data with information from other data sources.

C. Linking and Combining Data

Sometimes one order or market activity event may be reflected in information contained in various data sources or in different fields within the same data source, and fully understanding that activity requires linking information across the different data sources. Therefore, regulators analyzing an event or running a surveillance pattern often need to link data. For example, cross-market examinations require the cumbersome and time-consuming task of linking many different data sources.[443] Regulators combine trading data from sources such as public feeds, SRO audit trails, EBS data, and trade blotters when reviewing surveillance alerts to determine whether violations of rules such as Rule 611 of Regulation NMS occurred [444] or to examine, for example, whether an entity availing itself of a market maker exemption is engaging in bona fide market making. In fact, the data needed for an examination often consist of many audit trails and are stored in non-uniform formats.[445] In addition, the analysis and reconstruction of market events could require linking many different data sources, such as a dozen SRO audit trails.

Regardless of whether order lifecycle reports are reflected in the same or different data sources, the process of linking lifecycle events is complex and can create inaccuracies. Merging different data sources often involves translating the data sources into the same format,[446] which can be a complex process that is prone to error. Linking records within or across data sources also requires the sources to share “key fields” that facilitate linkage, along with a successful linking algorithm. Regulators may be unable to link some data source combinations accurately because the data sources do not have key fields in common or the key fields are not sufficiently granular. For example, regulators cannot always link trade records accurately to EBS records. The EBS records contain a symbol and date, but the price and size on the records may reflect multiple trades spread over a period of time. Sometimes, different data sources may have key fields in common but the relationship between the fields is not straightforward. In these cases, the algorithm to link them may be necessarily complex and not entirely successful. Further, within a single order lifecycle, the order number may change when a broker-dealer routes the order to another broker-dealer or exchange or even to another desk at the same broker-dealer. The inability to link all records affects the accuracy of the resulting data and can force an inefficient manual linkage process that would delay the completion of the data collection and analysis portion of the examination, investigation, or reconstruction.

D. Customer and Broker-Dealer Identifiers

The data sources described in Section IV.D.2.a also lack consistent customer and broker-dealer identifiers, which limit regulators' ability to track the activity of one client or broker-dealer across the market. There is no standard convention for how broker-dealers identify customers.

Regulators face challenges in tracking broker-dealers' activities across markets due to inconsistent identifiers and a lack of a centralized database. These challenges occur primarily in the context of regulatory activities that require manual or ad hoc data analysis, as is often the case in particular investigations, examinations, and market studies. In the case of broker-dealers, SROs generally identify their members within their data using market participant identifiers (“MPIDs”). However, the MPIDs that identify broker-dealers on Execution Venues are not standardized across venues; consequently, a broker-dealer identified as “ABCD” on one venue may be identified differently on another venue, where “ABCD” may refer to a different broker-dealer entirely. Therefore, aggregating a broker-dealer's activity across venues requires verifying the MPIDs assigned to a broker-dealer on each venue, usually referencing the broker-dealer by its Central Registration Depository (“CRD”) number.[447] In the course of manual data analysis, the Commission notes that its Staff have experienced challenges in identifying broker-dealers using CRD numbers. These challenges can be due to the fact that, although every broker-dealer has a CRD number, a broker-dealer that routes an order seldom, if ever, provides a CRD number to the broker-dealer that accepts the order.[448]

Start Printed Page 30671

Regulators sometimes find it necessary to analyze trading activity at the customer level instead of the broker-dealer level. Consistently identifying customer account owners across the multiple broker-dealers with whom they transact is difficult and prone to error. Although, for example, the EBS system provides the names associated with each account traded, these names are drawn from the separate records of each broker-dealer providing data to the EBS system, and the same party may be identified by a different name across multiple broker-dealers. Further, the lack of tax identification numbers in many EBS records limits the ability for regulators to trace the trading activity of customers across broker-dealers. Tax identification numbers are not required to be reported in EBS for average price, allocation, riskless principal, foreign accounts, and subaccounts. In fact, when one broker-dealer executes for a second broker-dealer, the tax identification number is that of the second broker-dealer regardless of whether the second broker-dealer is trading for a customer.

E. Aggregation

The practice used in some data records of bundling together data from different orders and trades also can make it difficult to distinguish the different orders and trades in a given bundle. As an example, brokers frequently utilize average-price accounts to execute and aggregate multiple trades for one or more customers. In these cases, for example with EBS data, the system does not reflect the details of each individual trade execution, because it reports only the average aggregate prices and volumes of the various trades within a series that have been bundled together for reporting purposes. Further, information on trade allocations aggregate the trade information to such an extent that it is difficult for regulators to identify when particular clients may be afforded preferential treatment because it is challenging to link subaccount allocations to orders and trades.

Equity and options cleared reports provide valuable data to regulators, but aggregation reduces their usefulness, because the reports do not have detailed trade information and do not include activity that does not require clearing.[449] The volume in these reports cannot be fully disaggregated and reconciled with the equity trade execution volume from other data sources used by the Commission, e.g., TAQ and MIDAS, because the volume in the cleared reports is not necessarily a summation of all trades. For example, the same trade can be reported two or more times, by both the buy and the sell sides, for some OTC transactions and for all trades in NASDAQ exchanges.[450] Similarly, option cleared reports bundle together multiple executions by compressing or netting them to facilitate clearing. This aggregation limits regulators' ability to link records across data sources, as well as limiting the accuracy with which the data source reflects market events, which is particularly problematic in applications that require market reconstruction.

Finally, issuer repurchase information is aggregated at the monthly and quarterly level.[451] This aggregation limits the use of such data in investigations of the timing of issuer repurchases and issuer stock price manipulation and in analysis of the use of the Rule 10b-18 issuer repurchase safe harbor.[452]

(3) Accessibility

The SROs and Commission also lack direct access—meaning the ability to log into a system in a manner that would allow them to gather and analyze the data they need—to many of the data sources described above. SROs generally have direct access only to their own audit trails and the public data feeds.[453] While SROs control the manner in which they access their own data, their investigations in some cases require access to the data of other SROs because firms could trade across multiple SROs. To access another SRO's data, SROs must send requests to the other SROs [454] or to the ISG.[455] SROs needing information not included in their audit trails or the audit trail of another SRO must request such information from their members. The SROs might not be able to acquire data from entities that are not members of that SRO; non-members are not obligated to provide SROs with data,[456] any data provided by Start Printed Page 30672the regulator of the non-member firm would be on a voluntary basis, or pursuant to the terms of the ISG Agreement.

The Commission has direct access only to the public data feeds and the equity and option cleared data; it lacks direct access to information provided in EBS or contained in trade blotters, order tickets, order handling data, SRO audit trails, and OATS data. Unlike the SROs, the Commission can subpoena data from entities that are not registered with the Commission, such as professional traders that are neither broker-dealers nor investment advisers.

If a regulator does not have direct access to data it needs, the regulator would request it. This can result in many data requests to broker-dealers, SROs, and others,[457] which are burdensome to fill. The Commission recognizes that data requests could impose burdens on the entities responding to the request, in addition to the burden on the regulators to put the request together. Broker-dealers, investment advisers, and SROs responding to a data request must incur costs in order to produce, store, and transmit the data for the Commission or SRO.[458] Further, as indicated above, regulators may need to request the data needed from many different data providers because of fragmentation in the data, and thus one analysis, such as an investigation, can generate many data requests.

Fragmentation in trade and order data can take many forms. First, an analysis may require the same type of data from many market participants. Second, the required data fields for an analysis may be reflected in different types of data. Finally, an analysis may require data on different products covered in separate data sources. The fragmentation in the data across market participants is a function of the fragmentation of trading and broker-dealer services. In today's equity markets, trades execute across 12 exchanges, more than 40 ATSs, and around 250 dealers.[459] With its RSAs, FINRA can consolidate much of the SRO audit trails in equities.[460] In the options markets, 14 different exchanges trade listed options with no off-exchange trading of standardized options and no entity aggregating each audit trail into one dataset. The vast majority of stocks trade in more than one location and most options trade on multiple exchanges.

Exchange SROs generally limit their data collection to securities traded on their own exchanges, and limit the scope of their audit trails to transactions occurring on their exchanges. While ATSs and dealers report order events in equities to OATS, each of the 12 equities exchanges has its own audit trail. As a result of this structure, a market reconstruction for a single security may involve data requests to multiple exchanges. Likewise, a project involving options data may require data from each of the 14 options exchanges.

To acquire broker-dealer order records, EBS, trade blotters, and order tickets, regulators need to send a request to each broker-dealer to obtain its data. In the Commission's experience requested data can suffer from missing variables, truncations, and formatting problems due to the way that the data is queried by the broker-dealer. These problems can lead to substantial delays in using data and loss in regulatory productivity. Many different broker-dealers could have trading records in a given security on a given day of interest, so one narrow investigation could generate many data requests. As a result, in 2014 the Commission made 3,722 EBS requests that generated 194,696 letters to broker-dealers for EBS data. Likewise, the Commission understands that FINRA requests further generate about half this number of letters. In addition, for examinations of investment advisers and investment companies, the Commission makes approximately 1,200 data requests per year. Further, an investigation that requires tracing a single trade or a set of trades back to an investor or investors can generate many data requests. For such investigations, regulators would first need to request data from the exchanges or market participants executing the trades. This data would tell the regulators which members, subscribers, or broker-dealers sent the orders that led to the executions. Regulators would then need to go to the members, subscribers, and broker-dealers to get information on the orders and repeat until they get to the broker-dealer who initiated the order to see the customer behind the order.

Finally, some regulatory activities require data on both equities and options. Because current data sources do not contain information regarding both equities and options, regulators needing data on both types of securities would need to make several data requests. Closely related securities are sometimes traded on entirely different exchanges, complicating cross-product analyses. For example, COATS data covers options trades but excludes the trading of the underlying assets. Often investigations or analyses require examining both options and their underlying assets, creating the need for regulators to request data from multiple sources.

This data fragmentation also results in disparate requirements for industry members to record and report the same information in multiple formats. Because each SRO has its own data requirements, a market participant that is a member of multiple SROs may be required to report audit trail data in numerous formats and interact with multiple regulators in response to normal data queries. That said, the Commission understands that the number of disparate formats faced by each member may have reduced over the past several years.[461]

(4) Timeliness

In order to respond promptly to market events, regulators must be able to obtain and analyze relevant data in a timely fashion. Currently, obtaining trade and order data and converting the Start Printed Page 30673data into a form in which they can be analyzed can involve a significant delay from the time of a particular event of interest. Indeed, in some cases the length of time from when an event occurs until regulators can use relevant data in an investigation or analysis can be weeks or months. This is especially true for trading data that includes customer information.

Some of the data sources described above can be accessed by SROs and the Commission without significant delay. For example, SROs and the Commission have some real-time direct access to public data and, through MIDAS, the Commission has next-day direct access to analytics that are based on public data, such as volumes over various time horizons. Regulators can also sometimes request and receive trade blotter data on the same day as the trade(s) of interest because trade blotters are generally stored in systems immediately.[462] Further, the Commission understands that FINRA receives audit trail data from exchanges pursuant to RSAs at the end of each trading day. However, it has been the Commission's experience that trade blotter data requests can take weeks or in excess of a month depending on the scope of the request and how accustomed the broker-dealer is with fulfilling such requests.

Corrected FINRA OATS data may be available less than two weeks after an event and uncorrected data on day T+1. In particular, FINRA members submit OATS data on a daily basis, submitting end-of-day files by 8:00 a.m. Eastern Time the following day or they are marked late by FINRA.[463] FINRA acknowledges receipt of the data an hour after the member submits it, before running its validation process. FINRA then takes approximately four hours after acknowledging receipt of OATS data to determine if the data contain any syntax errors.[464] In addition to the four hours needed to identify errors within a report, it takes another 24 hours for context checking, which identifies duplicates or secondary events without an originating event. Once a context rejection is available, the member has up to five business days to repair the rejection.[465] Reports for files that contain internally inconsistent information about processing, linking, and routing orders may be available within two business days. FINRA attempts to match the inconsistent information against any additional data received up to day T+2 for linking errors and day T+30 for routing errors. The timing for surveillance programs varies depending on the type of surveillance being performed; data is assumed to be completely processed and corrected at day T+8.[466]

Because market participants generally do not report or compile datasets immediately after an order event, there is a delay before regulators may access some data sources. For example, the compilation of equity and option cleared reports occurs on day T+1 for options and day T+3 for equities (i.e., the clearing day) and the electronic query access for equities is available from SIAC on day T+3. Additionally, when broker-dealers receive a request for EBS, the firm must first fill in the EBS report and then, if it does not self-clear, pass the reports on to its clearing firm to compile and send to SIAC. The EBS submission process can take up to ten business days. More immediate requests for cleared options data can be submitted to FINRA, but even this process takes up to two days. Because EBS data do not contain order entry time and order execution time, regulators must obtain this information from firms and brokers using either data requests or subpoenas, and this process generally can take from two to four weeks depending on the size of the request.

As discussed above,[467] the lack of direct access to most data sources may further delay the ability of regulators to use data in certain cases. When regulators have direct access to a data source, the time needed to receive data is only the time it takes for a query to run. For example, depending on the scope of the search, it can take just a few minutes to return the results of a query of equity and option clearing data.[468] As a result of direct access to their own audit trails, some SRO surveillance occurs on the same day as the trading activity. FINRA, however, typically gets direct access to exchange data, uncorrected OATS data, and corrected OATS data at the time it receives it, unlike the exchanges and broker-dealers that have some access to the data as it is generated.[469] However, when regulators lack direct access, their data requests can consume significant time, including both the time required to put the request together and response times from the SROs, broker-dealers, and others producing the data.[470] For example, obtaining complete responses from each broker-dealer for an EBS request can take days or weeks depending on the scope of the request. Likewise, responses from the ISG for SRO audit trail data can take days or weeks.

Once regulators receive requested data, the data often have to be processed into a form in which they can be analyzed. As discussed above,[471] it can take considerable time for regulators to combine data from different sources and link records from within or across data sources. Furthermore, the lack of consistency in format adds complexity to projects involving data from multiple data sources, even when the project does not involve linking of these different data.[472] For example, the Start Printed Page 30674Commission understands that FINRA takes approximately three days to process exchange data to transform it into a common format and prepare it for surveillance. Therefore, FINRA cross-market surveillances and surveillance of the off-exchange market typically assumes data is fully corrected and processed on T+8.[473] Any processing that requires linking order life-cycle events or other types of data can be time consuming to perform, even if all of the data comes from the same data source.[474] In some cases, the laborious process of assembling the data delays other critical investigative or analytical steps.

In addition, those who use regulatory data also typically take time to ensure the accuracy of the data. When regulators question the accuracy of data, they often check several alternative sources until they are comfortable that their data are accurate. This checking of data accuracy and augmentation process adds time to an investigation or analysis. In some cases, regulators may filter out unreliable data or refocus an investigation to avoid relying on data after spending time and resources unsuccessfully attempting to ensure accuracy.

As discussed in the Adopting Release, the timely accessibility of data to regulators also impacts the efficacy of detecting (and possibly mitigating the effects of) some types of market manipulation.[475] For example, some pernicious trading schemes are designed to generate large “quick-hit” profits in which market participants attempt to transfer the proceeds from the activity to accounts outside of the reach of domestic law enforcement as soon as the offending transactions have settled in the brokerage account (typically three days after execution). The timeframes currently required to acquire data generally complicate the prevention of these asset transfers.

3. Request for Comment on the Baseline

The Commission requests comment on all aspects of the Baseline for the economic analysis of the CAT NMS Plan. In particular, the Commission seeks responses to the following questions:

240. Do Commenters agree with the Commission's assessment of the Baseline for the economic effects of the CAT NMS Plan? Why or why not?

241. Do Commenters believe that the Baseline appropriately describes current market surveillance, examination, and investigation activities by regulators? Why or why not?

242. Do Commenters believe that the Baseline appropriately describes current market event analysis and reconstruction activities by regulators? Why or why not?

243. Do Commenters believe that the Baseline appropriately describes market analysis activities by regulators? Why or why not?

244. Do Commenters believe that the Baseline appropriately describes the sources of trade and order data currently available to regulators? Why or why not?

245. Are there additional sources of trade and order data currently available to regulators? Please explain and describe those sources in detail, including any limitations.

246. Do Commenters agree with the Commission's assessment of the completeness of the trade and order data currently available to regulators? Why or why not? Does the fragmented nature of current data sources pose significant challenges to regulators seeking complete data?

247. Do Commenters agree with the Commission's assessment of the accuracy of the trade and order data currently available to regulators? Why or why not?

248. Do Commenters agree that the error rates in current data sources or in responses to ad hoc data requests pose significant challenges to regulators? Why or why not? Do Commenters have additional statistics on error rates in these data?

249. Do Commenters agree with the Commission's assessment of the Baseline of clock synchronization for broker-dealers, exchanges, and others in the securities industry? Please explain. Does the Commission's analysis appropriately describe the frequency of orders that regulators may need to sequence and the challenges to sequencing given current clock synchronization standards? If not, do Commenters have more appropriate analyses? How could the Commission improve the analysis? Please explain.

250. Do Commenters believe that the Baseline appropriately describes granularity of time stamps in the trade and order data currently available to regulators? Please explain.

251. Do Commenters agree with the Commission's assessment of regulators' ability to combine or link data across the sources of trade and order data currently available to regulators? Please explain.

252. Do Commenters believe that the Baseline appropriately describes customer and broker-dealer identifiers in the sources of trade and order data currently available to regulators? Please explain.

253. Do Commenters believe that the Baseline appropriately describes aggregation within the sources of trade and order data currently available to regulators? Please explain.

254. Do Commenters agree with the Commission's assessment of the current ability of regulators to access trade and order data? Why or why not?

255. Do Commenters agree with the Commission's assessment of the timeliness of the trade and order data currently available to regulators? Why or why not?

256. Is there any other information that the Commission should include in the Baseline? Please explain.

E. Benefits

As noted in the Framework Section above, the economic benefits of the CAT NMS Plan would come from any expanded or more efficient regulatory activities facilitated by improvements to the data regulators use because the Plan would create a new consolidated data source, CAT Data that could replace the use of some current data sources for many regulatory activities. Therefore, the Benefits Section first describes how CAT Data compares to data regulators currently use for regulatory activities. Then this Section describes how the CAT Data would improve regulatory Start Printed Page 30675activities and how these improvements benefit investors.

The Commission preliminarily believes that the CAT NMS Plan would produce data that would improve on current data sources, because CAT Data would result in regulators having direct access to consolidated audit trail data that would improve many of the regulatory activities discussed in the Baseline Section. As summarized in Table 4, if the Plan is approved, the Commission preliminarily believes that the Plan would generate improvements in the quality of data that regulators would have access to in the areas of completeness, accuracy, accessibility, and timeliness. The Commission preliminarily believes that the improvements in the quality of regulatory data within these categories would significantly improve the ability of regulators to perform a wide range of regulatory activities, which would lead to benefits for investors and markets. In addition, the Commission preliminarily believes that certain provisions in the Plan related to future upgrades of the Central Repository, the promotion of the accuracy of CAT Data, the promotion of the timeliness of CAT Data, and the inclusion of specific governance provisions identified by the Commission in the Adopting Release for Rule 613, increase the likelihood that the potential benefits of the CAT NMS Plan described below would be realized.

In the category of completeness, the ability for regulators to access more material data elements from a consolidated source would enable regulators to more efficiently carry out investigations, examinations, and analyses because regulators could acquire from a single source data that they would otherwise need to compile from many data sources. This data source would include data elements that regulators currently acquire with difficulty (if at all), including customer information, allocation records, open/close position information for equities, and certain other trade and order information not consistently available in SRO audit trails.[476]

In the category of accuracy, the Commission preliminarily believes that the Plan would substantially improve data accuracy by requiring CAT Data to be collected, compiled, and stored in a uniform linked format using consistent identifiers for customers and market participants. These requirements should over time result in fewer inaccuracies in the data as well as fewer inaccuracies introduced in combining data compared to the current data regime.[477] The CAT NMS Plan would also require that CAT Reporters' business clocks be synchronized to within 50 milliseconds of the time maintained by the NIST, which would increase the precision of the time stamps provided by the 39% of broker-dealers who currently synchronize their clocks with less precision than what is called for by the Plan. This information may also be used to partially sequence surrounding events. However, while the Commission preliminarily believes that the requirements in the Plan for clock synchronization and time stamp granularity would improve the accuracy of data with respect to the sequencing of market events, the improvements would be modest, as regulators' would experience improvement for a small percentage of market events relative to all surrounding events.[478] Independent of the potential time clock synchronization benefits, the order linking data that would be captured in CAT should increase the proportion of events that could be sequenced accurately. This reflects the fact that some records pertaining to the same order could be sequenced by their placement in an order lifecycle (e.g., an order submission must have occurred before its execution) without relying on time stamps.

In the category of accessibility, the Commission preliminarily believes that the Plan would substantially improve the access of data for regulators due to the Plan's requirement for regulators to have direct access to CAT Data. While some elements of CAT Data can currently be obtained from other sources, it can take regulators weeks or months to obtain this data. As opposed to the current state of fragmented data with indirect regulatory access, if the CAT NMS Plan is approved, regulators would have direct access to consolidated trade and order data from a single source. Therefore, instead of requesting data from multiple sources, the Plan would allow regulators to log into a single system and query data directly from the system. This direct access for regulators would dramatically reduce the hundreds of thousands of requests that regulators must make each year in order to obtain data, thus reducing the burden on the industry.

In the category of timeliness, the Commission preliminarily believes that the Plan would significantly improve the timeliness of data acquisition and use, which could improve the timeliness of regulatory actions that use data. CAT Data would be reported by 8:00 a.m. Eastern Time on day T+1 and made available to regulators in raw form after it is received and passes basic formatting validations,[479] with an error correction and linkage process that would be completed by 8:00 a.m. Eastern Time on day T+5.[480] These requirements would ensure that data is available to regulators faster than in the current system and should also reduce the amount of time regulators would need to process data prior to usage.

Regulatory activities expected to benefit from improved data quality would include surveillance, investigations, examinations, analysis and reconstruction of market events, and analysis in support of rulemaking initiatives. Data is essential to all of these regulatory activities and therefore substantial improvements in the quality of the regulatory data should result in substantial improvements in the efficiency and effectiveness of these regulatory activities, which should translate into benefits to investors and markets. For example, improved data could lead to more effective and efficient surveillance that better protects investors and markets from violative behavior and facilitates more efficient and effective risk-based investigations and examinations that more effectively protect investors. Together, these improved activities could better deter violative behavior of market participants, which could improve market efficiency. Furthermore, this increase in directly accessible data should improve regulators' understanding of the markets, leading to more informed public policy decisions that better address market deficiencies to the benefit of investors and markets.

The Commission notes that the Plan lacks information regarding the details of certain elements of the Plan, primarily because many details likely to affect the benefits of the Plan have not yet been determined, which creates some uncertainty about the expected economic effects. As discussed further below, lack of specificity surrounding the processes for converting data formats and linking related order events Start Printed Page 30676creates uncertainty in the anticipated improvements in accuracy because such processes have the potential to create new data inaccuracies. Lack of specificity surrounding the process for regulators to access the CAT Data also creates uncertainty around the expected improvements in accessibility. For example, while the Plan indicates that regulators would have an on-line targeted query tool and a tool for user-defined direct queries or bulk extraction,[481] the Plan itself does not provide an indication for how user-friendly the tools would be or the particular skill set needed to use the tools for user-defined direct queries.

Start Printed Page 30677

Start Printed Page 30678

1. Improvements in Data Qualities

As explained above, in the Adopting Release the Commission identified four qualities of trade and order data that impact the effectiveness of core SRO and Commission regulatory efforts: Accuracy, completeness, accessibility, and timeliness.[486] In assessing the potential benefits of the CAT NMS Plan, the Commission's economic analysis compares the data that would be available under the Plan to the trading and order data currently available to regulators.[487] As explained in detail below, the Commission preliminarily believes that the Plan would improve data in terms of all four qualities noted above, although uncertainty remains as to the expected degree of improvement in some areas.

a. Completeness

The CAT NMS Plan, if approved, would result in regulators having direct access to a single data source that would be more complete than any current data source.[488] The CAT Data would be more complete than other data sources because it would contain data from a greater number of broker-dealers on more event types, products, and data fields, when compared to existing SRO audit trails and other data sources. As discussed in more detail below, while some current data sources contain many of the elements that would be included in CAT Data, the CAT Data would consolidate that data into one source to produce a data source much more complete than any existing source. CAT Data would also include some elements that are not available from any current data source. Having this data consolidated in a single source would provide numerous benefits that are described below.

(1) Events and Products

CAT Data would be more complete than any current data source because it combines currently fragmented information into one data source. In particular, the Plan states that the Central Repository, under the Plan Processor's oversight, shall receive, consolidate, and retain all CAT Data.[489] “CAT Data” is defined as “data derived from Participant Data, Industry Member Data, SIP Data, and such other data as the Operating Committee may designate as CAT Data from time to time.” [490] Section 6.3 of the Plan describes the data to be received from Participants that are national securities exchanges, which would include data for “each NMS Security [491] registered or listed for trading on such exchange or admitted to unlisted trading privileges on such exchange.” Participants that are a national securities association (i.e., FINRA) must report data for each “Eligible Security for which transaction reports are required to be submitted to that association.” [492] “Eligible Security” is defined in the Plan as all NMS Securities and all OTC Equity Securities,[493] and “OTC Equity Security” is defined as “any equity security, other than an NMS Security, subject to prompt last sale reporting rules of a registered national securities association and reported to one of such association's equity trade reporting facilities.” [494] “Industry Member Data” refers to audit trail data reported by members of the exchanges and national associations, which includes Options Market Makers.[495] SIP Data is defined in the Plan as information, including size and quote condition, on quotes including the National Best Bid and National Best Offer (“NBBO”) for each NMS Security; Last Sale Reports and transaction reports reported pursuant to an effective transaction reporting plan filed with the Commission pursuant to, and meeting the requirements of Rule 601 and 608; trading halts, limit-up limit-down (“LULD”) price bands,[496] and LULD indicators; and summary data or reports described in the specifications for each of the SIPs and disseminated by the respective SIP.[497]

CAT Data would include data from all SRO audit trails, combined into a single data source. In addition, it would include some off-exchange activity not captured on current SRO audit trails. Section 6.4(d) of the Plan requires the Participants to require their Industry Members to record and report order events to the Central Repository. The Commission notes that SRO audit trails currently do not include the activity of firms that are not members of that SRO.[498] And, currently only FINRA requires its members to report their off-exchange activity. While broker-dealers that trade off-exchange must be members of FINRA unless their activity fits the terms of the exemption in Rule 15b9-1,[499] firms that qualify for the exemption in that rule and that are not FINRA members do not report their off-exchange activity to OATS.[500] This exemption amounts to a large percentage of off-exchange activity. Broker-dealers that are not FINRA Members accounted for 48% of orders sent directly to ATSs in 2014, 40% of orders sent directly to ATSs in 2013, and 32% in 2012.[501] Because all SROs Start Printed Page 30679are Participants in the Plan, under the Plan all broker-dealers with Reportable Events, including off-exchange, would be required to report the required CAT Data to the Central Repository. And, the inclusion of these additional Reportable Events would make CAT Data more complete than the combination of current SRO audit trails.

CAT Data would also include many Reportable Events such as order origination, order routing, receipt of a routed order, order modifications, cancellations, and executions, and trade cancellations. Currently, OATS data contains most of these Reportable Events but does not cover all participants and does not include options.[502] For example, CAT Data would contain more events than EBS data, trade blotters, and public data. As previously noted, OATS data also do not include proprietary orders originated by a trading desk in the ordinary course of a member's market making activities (or “principal activity”).[503] But, pursuant to Rule 613(j)(8),[504] principal trading would be included in CAT reporting requirements, an improvement over OATS. This requirement significantly improves completeness because such events are not included in current SRO audit trails, and account for a significant portion of market activity (40.5% of all transactions and 67% of all exchange message traffic according to a Commission analysis).[505] This would improve regulatory activities in which observation of pricing information, as it relates to market activity, is important for determining the legality and consequences of market activity of interest as well as regulatory analysis of market behavior in general.

CAT Data also would include the information described above for listed equities and options and OTC Equity Securities.[506] Therefore, the inclusion in CAT Data of all these products adds an additional level of completeness relative to current data sources.

(2) Data Fields

The CAT NMS Plan also would improve completeness by consolidating in a single source fields that currently may only be available from some data sources, and by including some fields that are difficult for regulators to compile. Not every data field that would be in CAT Data is currently included in SRO audit trails, and very few fields are included in all data sources.

The inclusion of consistent unique customer information, in particular, in the CAT Data represents a significant improvement over current SRO audit trails in terms of completeness. Rule 613(c)(7)(i) requires that a CAT Reporter report information to the Central Repository that uniquely identifies a customer across all broker-dealers.[507] As noted in the Baseline, very few current data sources contain customer information, and those that do are largely limited in the completeness and accuracy of this information, all of which significantly limits regulatory efficiency.[508] The identification of customers underlies numerous enforcement activities and many examination and surveillance activities of regulators. This would also allow regulators to obtain information efficiently regarding customers, such as issuers repurchasing their stock and short sellers.[509]

In addition to data fields providing customer information, the Plan would improve completeness by including other data fields not found on current SRO audit trails. For example, CAT Data would include allocation information, open/close information, Quote Sent Time, and information on whether a Customer gave a modification or cancellation instruction.

The information in the Allocation Report required by the CAT NMS Plan represents a significant improvement in completeness over current sources for subaccount allocation data, such as trade blotter and EBS data. Under the Plan, an Allocation Report would include the Firm Designated ID for any account(s), including subaccount(s), to which executed shares are allocated, the security that has been allocated, the identifier of the firm reporting the allocation, the price per share of shares allocated, the side of shares allocated, the number of shares allocated to each account, and the time of the allocation.[510] While most of the fields required on the Allocation Report are included on trade blotter or EBS data, their inclusion in CAT Data would significantly reduce the time and effort expended for regulators to acquire such information.[511] Because it is not required on EBS or in broker-dealer recordkeeping rules, the allocation time field on the Allocation Report provides information that is currently even more difficult for regulators to acquire than the other information on the Allocation Report. These data improvements should facilitate the use of allocation data in regulatory investigations and should result in more effective and efficient investigative processes. Allocation data also serves an important role in many other regulatory activities that aim to protect investors.[512] Indeed, allocation time is an extremely important data field because it is critical in investigations of violations like market manipulation and cherry-picking.[513]

In addition, while many of the elements contained in the definition of “Material Terms of the Order” are Start Printed Page 30680collected in current SRO audit trails, the CAT NMS Plan's definition of Material Terms of the Order expands the CAT Data beyond the coverage of current SRO audit trails and other sources. The CAT NMS Plan requires that the Material Terms of the Order be reported for order origination, routing, and the receipt of a routed order. And Material Terms of the Order is defined to include the security symbol, security type, price (if applicable), size (displayed and non-displayed), side (buy/sell), order type, if a sell order, whether the order is long, short, or short exempt, open/close indicator, time in force (if applicable), and any special handling instructions.[514] In addition, if the order is for a Listed Option, the Material Terms of the Order would be defined to include option type (put/call), option symbol or root symbol, underlying symbol, strike price, expiration date, and open/close.[515]

Because data on open/close indicators are not currently included in SRO audit trails, obtaining data on whether a trade opens or closes a position in equities is currently very difficult. Ready access to this information would facilitate regulators' ability to determine whether a purchase or sale increases or decreases equity exposure, such as when a buy covers a short position.[516] This would help regulators reconstruct customer positions without requiring specific position data and would assist in analysis of rules such as Rule 105 of Regulation M,[517] governing when short sellers can participate in a follow-on offering.[518] This information is also useful in investigating short selling abuses and short squeezes.[519] Among other things, a build-up of a large short position by one investor along with the spreading of rumors may be indicative of using short selling as a tool to potentially manipulate prices. Information on when the position decreases is also useful for indicating potential manipulation, insider trading, or other rule violations.[520] The ability to determine whether an order adds to a position, along with the timing of the order, is particularly important in detecting and investigating portfolio pumping or marking the close.[521]

The CAT Data would also include information regarding the sent time for Options Market Maker quotes and information about whether a modification or cancellation instruction for an order was given by a Customer associated with an order, or was initiated by a broker-dealer or exchange associated with the order. Neither of these data fields is currently readily available from existing SRO audit trails.[522] Quote sent time is particularly informative for certain narrow market reconstructions for enforcement investigations, and knowing whether the member or Customer made a modification or cancellation helps regulators understand the decisions that broker-dealers and others make in the interest of best execution.

The remaining data fields included in CAT Data are also included in some or all current SRO audit trails, although no single source contains all of them. For instance, Rule 613(c)(7)(vi)(C) requires the collection of audit trail data that links executions to contra-side orders and a CAT-Order-ID for the contra-side order.[523] An order identifier for the contra-side order(s) would help regulators better reconstruct executions. Although some current exchange audit trails identify counterparties to trades, this identification is sometimes more difficult for off-exchange equity trading.[524] Further, while all SRO audit trails contain time stamps, as CAT Data would, some sources of regulatory data do not currently include all the types of time stamps that would be in CAT Data.

Additionally, the inclusion of order display information (i.e., whether the size of the order is displayed or non-displayed), and special handling instructions in CAT Data improve completeness because they are not always mandatory in SRO audit trail data, and therefore may not be consistently available without data requests to broker-dealers.[525] Order display information is useful for examining how hidden liquidity affects markets or how regulatory changes affect hidden liquidity, and special order handling instructions could assist in examinations of best execution and could allow regulators to better understand the role and trends of these instructions in the market.

Other information required by the CAT NMS Plan includes the security symbol, date and time of the Reportable Event, the identity of each Industry Member or Participant accepting, routing, receiving, modifying, canceling, or executing each order, the identity and nature of the department or desk to which an order is routed, if an order is routed internally within the system of an Industry Member, a CAT-Order-ID, changes in any Material Term of the Order (if the order is modified), execution capacity, the CAT-Order-ID of any contra-side order(s), and the SRO-Assigned Market Participant Identifier of the clearing broker or prime broker.[526] Of these fields, the security symbol and date are the only data found on all current data sources.

The Commission preliminarily believes that the CAT Data would include all data elements that would be useful and efficient to include in a consolidated audit trail. The Commission previously considered which fields should be reported to CAT when proposing and adopting Rule 613. The set of data fields required by Rule 613 reflected the Commission's assessment, as informed by public comment, of the benefits and costs of including various data elements in CAT.[527] While the costs and benefits of including particular fields can change due to technological advances and/or changes in the nature of markets, the Plan contains provisions regarding periodic reviews and upgrades to CAT that could lead to proposing additional data fields that are deemed important.[528] In addition the Commission reviewed gap analyses that examine whether the CAT Data would contain all important data elements in current data sources.[529] As a result of Start Printed Page 30681this review, the Commission is aware that one data gap involves OATS data fields that allow off-exchange transactions to be matched to their corresponding trade reports at trade reporting facilities, and recognizes that these fields are important to assure trade reporting requirements are being met for off-exchange trading.[530] Similarly, the Commission notes that EBS includes 13 data elements that are not required by CAT or derivable through other CAT fields and would thus reflect some limitations of the Plan if EBS were retired before those missing data elements were incorporated into CAT.[531] However, as discussed in Section 3 of Appendix D of the Plan, prior to the retirement of existing systems, the CAT Data must contain data elements sufficient to ensure the same regulatory coverage provided by existing systems that are anticipated to be retired.[532] The Commission therefore expects that any missing elements that are material to regulators would be incorporated into CAT Data prior to the retirement of the systems that currently provide those data elements to regulators. And the Commission preliminarily believes that CAT Data would include the audit trail data elements that currently exist in audit trail data sources and that could be retired upon implementation of the CAT.

b. Accuracy

This Section analyzes the expected effect of the CAT NMS Plan, if approved, on the accuracy of the data available to regulators.[533] In general, the Commission preliminarily believes that the requirements in the CAT NMS Plan for collecting, consolidating, and storing the CAT Data in a uniform linked format, the use of consistent identifiers for Customers, and the focus on sequencing would promote data accuracy.

The Commission notes that the full extent of improvement that would result from the Plan is currently unknown, because the Plan defers many decisions relevant to accuracy until the Plan Processor publishes the Technical Specifications and interpretations.[534] In particular, the CAT NMS Plan specifies that the “[t]echnical Specifications shall include a detailed description of . . . each data element, including permitted values, in any type of report submitted to the Central Repository” [535] and “the Plan Processor shall have sole discretion to amend and publish interpretations regarding the Technical Specifica- tions.” [536] This leaves open precise definitions and parameters for the data fields to be included in CAT Data.[537]

Nonetheless, the Commission preliminarily believes that the Plan provides some procedural protections to mitigate this uncertainty and help promote accuracy. For example, the Plan requires that, at a minimum, the Technical Specifications be “consistent with [considerations and minimum standards discussed in] Appendices C and D,” and that the initial Technical Specifications and any Material Amendments thereto must be provided to the Operating Committee for approval by Supermajority Vote.[538] Further, all non-Material Amendments and all published interpretations must be provided to the Operating Committee in writing at least ten days before publication, and shall be deemed approved unless two or more unaffiliated Participants call the matter for a vote of the full Operating Committee.[539]

(1) Data Errors

The CAT NMS Plan specifies a high-level process for handling errors that includes target Error Rates for data initially submitted by CAT Reporters and a correction process and timeline. In particular, the Plan specifies an initial maximum Error Rate, which measures errors by CAT Reporters and linkage validation errors,[540] of 5% for reports received by the Central Repository before the error correction process and contemplates the reduction of this Error Rate over time. It is difficult to conclude whether the Error Rates and processes in the CAT NMS Plan would constitute an accuracy improvement as compared to current data sources.

The Plan states that 5% is an appropriate initial Error Rate, to allow CAT Reporters the opportunity to get used to a new reporting regime, and that the Error Rate should be reduced over time, with goal of a 1% Error Rate to be achieved one year after each new category of Reporters is required to begin reporting.[541] This was determined based on Participants' experience with OATS. The initial rejection rates for OATS when it was initially implemented was 23%,[542] although more recent experience with OATS reporting indicates error rates below 3% following the implementation of additional OATS upgrades over the past 10 years and a current error rate of less than 1%.[543]

But, because the current OATS error rate is below 1%, the Commission preliminarily believes that the initial Start Printed Page 30682percentage of errors in CAT would be higher than current percentage of errors in OATS, though the OATS error rate may not be directly comparable to the Error Rate in the Plan.[544] Given the magnitude of CAT, the fact that many CAT Reporters would be new to audit trail reporting, and that options would be covered for the first time, the Participants believe that 5% is an appropriate initial Error Rate.[545] And the Plan injects some uncertainty by asserting that this initial 5% rate is subject to the quality assurance testing period to be performed prior to launch, and then again before each new batch of CAT Reporters are brought online.[546] In time, the rate could be lowered, but it also could be raised.

The Plan specifies an error correction process after initial reports are received and indicates that practically all errors identifiable by the validations used in the error correction process would be corrected by 8:00 a.m. Eastern Time on day T+5, stating that errors are expected to be “de minimis” after the error correction period.[547] Specifically, the Plan Processor must run initial validation checks on the data by noon eastern time on day T+1 (four hours after the submission deadline for the data). Those validation checks must be published in the Technical Specifications (as discussed further below) and have the objective to ensure that data is accurate, timely, and complete as near as possible to the time of submission. Once errors are identified, the Plan Processor must accept corrections via manual web-based entry and via batch uploads. Although there is a specific timeframe for performing these corrections, the Plan Processor must accept error corrections at any time.[548]

Rather than providing details on the validations that would occur, however, the Plan provides high-level requirements for the validations and delegates the detailed design of the specific validations to the Plan Processor (with the involvement of the Operating Committee and the Advisory Committee).[549] Additionally, the Plan does not provide the level of detail necessary to verify whether the CAT validation process would run the same validations as OATS, whether current validations would be relevant, and what validations, if any, would be added.

As noted above, it is therefore difficult to conclude whether the Error Rates and processes in the CAT NMS Plan would constitute an accuracy improvement as compared to current data sources. With respect to OATS, FINRA currently performs over 152 validation checks on each order event reported.[550] After corrections, approximately 1-2% of each day's recorded events remain unmatched (i.e., multi-firm events, such as order routing that cannot be reconciled).[551] However, the Commission is not certain that those error rates are directly comparable to the Error Rates permitted for CAT Data in the Plan given the increased scope and level of linkages specified in the Plan, and the new, large, and untested system. The Commission is not aware of other systems that track and record similar error rates, although the Commission does experience issues with errors contained in other sources of data when the Commission attempts to use that data. Accordingly, the Commission is unable to conclude whether the Error Rates and processes in the Plan would constitute an accuracy improvement compared to current data.

(2) Event Sequencing

A. Clock Synchronization

Rule 613(d)(1) and (2) requires that the CAT NMS Plan require that the business clocks of Participants and their members be synchronized to a specified standard of precision and for protocols to be in place for that standard to be maintained over time. Complying with this clock synchronization standard will require that, for the purpose of recording the date and time of Reportable Events, the business systems of Participants and their members be synchronized consistently with “industry standards.” The Commission did not define the term “industry standard” in Rule 613, though it noted that it expected the Plan to “specify the time increment within which clock synchronization must be maintained, and the reasons the plan sponsors believe this represents the industry standard.” [552]

The CAT NMS Plan describes the “industry standard” in this context in terms of the technology adopted by the majority of the industry.[553] The Plan therefore bases its clock synchronization standard on current practices of the broker-dealer industry generally and provides that one standard would apply to all CAT Reporters. Specifically, Section 6.8(a) of the CAT NMS Plan requires CAT Reporters to synchronize their time clocks to the time maintained by the NIST with an allowable clock offset of 50 milliseconds, which the Plan determines is consistent with the current industry standards, as defined in the Plan. The Plan further requires annual review of the clock synchronization standard to evaluate its achievement of the Plan's goals related to clock synchronization. Section 6.8(c) of the Plan requires the Chief Compliance Officer to annually evaluate the clock offset tolerance and to make recommendations to the Operating Committee regarding whether industry standards have evolved such that the standard in Section 6.8(a) should be shortened.[554]

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The Commission preliminarily believes that the clock synchronization standards in the CAT NMS Plan are reasonably designed to improve the accuracy of market activity sequencing by increasing the percentage of order events that could be chronologically sequenced relative to other order events,[555] but notes that the improvements to the percentage of sequenceable order events by Plan standards are modest and the requirements of the Plan may not be sufficient to completely sequence the majority of market events relative to all other events.

As discussed in the Baseline Section, 39% of the broker-dealers responding to the FIF Clock Offset Survey currently synchronize their clocks to a clock offset tolerance of greater than 50 milliseconds.[556] Accordingly, the 50 millisecond requirement for all CAT Reporters (except on manual order handling systems) would result in the availability of more precise time stamps from many broker-dealers [557] and would increase the number of order events that could be accurately sequenced relative to each other.

To evaluate the proportion of order events that could be sequenced with the clock offset tolerance specified in the CAT NMS Plan, the Commission has conducted an analysis of the frequency of market events occurring within 100 milliseconds of an event in a different trading venue in the same security.[558] Table 5 (CAT and Current Clock Offset Tolerance) shows the percentage of events for listed equities and options that could be accurately sequenced with one-second and 50-millisecond clock offset tolerances.

Table 5—CAT and Current Clock Offset Tolerance

% of Unrelated order events
Minimum time between adjacent eventsClock offset toleranceEquities (%)Options (%)
2 seconds1 second1.316.97
100 milliseconds50 milliseconds7.8418.83

The analysis finds that the current FINRA one-second clock offset tolerance allows only 1.31% of unrelated order events for listed equities and 6.97% of unrelated order events for listed options to be sequenced. The proposed 50-millisecond clock offset tolerance could accurately sequence 7.84% for listed equities and 18.83% for listed options of such events included in the MIDAS data. This analysis overestimates the portion of unrelated events that the proposed clock synchronization standard could sequence because the analysis includes only trade and quote events observable in the MIDAS data. The data currently available to the Commission provides only a rough and upwardly-biased estimate of how many of these events could be sequenced by the order data that would be captured by the CAT. In sum, the results of the Commission's analysis suggest that the standards required by the Plan do represent an improvement over current standard but that the majority of market events would remain impossible to sequence based on the Plan's required clock synchronization standards.

This analysis does not consider events in OTC Equity Securities. The Commission believes that the proposed clock synchronization standard could accurately sequence a higher proportion of unrelated events in OTC Equity Securities because OTC Equity Securities trade less frequently than NMS equities and unrelated order events may be less frequent in OTC Equity Securities than in listed equities. The Commission therefore preliminarily believes that the proposed 50 millisecond clock offset tolerance in the CAT NMS Plan could improve accuracy by modestly increasing the number of events that could be sequenced in OTC Equity Securities.

The Plan acknowledges that the required clock offset tolerance, which is based on its determination of the current industry standard, would not be sufficient to accurately sequence all order events by their time stamps alone.[559] In particular, the Plan states that “[f]or unrelated events, e.g., multiple unrelated orders from different broker-dealers, there would be no way to definitively sequence order events within the allowable clock drift as defined in Article 6.8.” [560] This in turn limits the benefits of CAT in regulatory activities that require event sequencing, such as the analysis and reconstruction of market events, as well as market analysis and research in support of policy decisions, in addition to examinations, enforcement investigations, cross-market surveillance, and other enforcement functions.

The Plan discusses its determination of the current industry standard and specifies implementation requirements for the clock synchronization standards in Appendix C.[561] As noted above, the Start Printed Page 30684Plan bases industry standards on current practices of the broker-dealer industry, which are derived from a survey of broker-dealers, and on the assumption that a change in industry standards would be premised on “the extent existing technology that synchronizes . . . clocks with a lower tolerance . . . becomes widespread enough throughout the industry to constitute a new standard.” [562]

The Commission notes however, that the current practices for exchanges and Execution Venues may differ from the industry standard for broker-dealers as defined in the Plan, and current practices for certain systems within broker-dealers may vary by the system within the broker-dealers. As noted in the Baseline Section, the Commission does not have precise information on the clock synchronization standards on exchange and ATS matching engines and quoting systems, but exchanges may currently synchronize their clocks to a 100 microsecond or less clock offset tolerance, and have an average clock offset of 36 microseconds.[563] By defining industry standards based on practices of the broker-dealer industry generally, the Plan does not account for these differences. Further, defining industry standards by majority practices may have the unintended effect of setting a standard that delays adopting advances in technology.

Despite these limitations, it is worth noting that the Plan requires the CCO of the Plan Processor to develop and conduct an annual assessment of Business Clock synchronization.[564] Moreover, Plan Participants must require Industry Members to certify periodically that their Business Clocks comply with the clock synchronization standard and that any violations thereof are reported to the Plan Processor and the Plan Participant.[565] Thus, the Commission believes that these provisions would help ensure that the benefits of clock synchronization are maintained.

B. Time Stamp Granularity

The Commission preliminarily believes that the minimum time stamp granularity required by the Plan would result in some improvement in data accuracy, but that the level of improvement could be limited. Despite the modest level of direct improvements expected from the Plan's minimum time stamp granularity standards, the Commission preliminarily believes that the Plan should continue to have a time stamp granularity standard because the Plan provides a mechanism for making future improvements and monitoring whether more granular time stamps would provide better quality CAT Data and be feasible given technology improvements.

The level of precision or granularity with which time stamps are recorded has significant implications for the usability of audit trail data in terms of sequencing events, matching records, and linking the data to other data sources. In some current regulatory data, the relative lack of time stamp granularity standards for data reporters could lead to difficulties in accurately sequencing events or linking data with other data sources. Rule 613(d)(3) requires that CAT Reporters record time stamps to reflect current industry standards and be at least to the millisecond.[566] Furthermore, the Plan requires Participants to adopt rules requiring that CAT Reporters that use time stamps in increments finer than milliseconds use those finer increments when reporting to the Central Repository.[567] Consistent with Rule 613, Section 6.8(b) of the CAT NMS Plan requires millisecond or less time stamps. However, the Commission granted exemptive relief for manual orders to be recorded at the granularity of one second or better.[568] Further, pursuant to Rule 613, if a CAT Reporter's system already utilizes time stamps in increments less than the minimum required by the Plan, the CAT Reporter must record time stamps in such finer increments.[569]

The Plan asserts that the millisecond increment required for CAT Data reflects the industry standard level of granularity.[570] As noted in the discussion of clock synchronization, the Commission did not define the term “industry standard” in Rule 613. The Plan therefore bases its standard for time stamp granularity on current practices of the broker-dealer industry generally, and provides that one standard would apply to all CAT Reporters. There appears to be a wide divergence of industry standards in practice, ranging from full seconds to microseconds for latency-sensitive applications, and the Plan describes the slower systems as mostly older ones that cannot support a finer time stamp granularity.[571] Many of the systems from which regulators currently obtain data already capture time stamps in increments of milliseconds or less. For example, OPRA allows for time stamps in nanoseconds, and the other SIPs require time stamps in microseconds for equity trades and quotes.[572] However, OATS and EBS do not. Current OATS rules require time stamps to be expressed to the nearest second, unless the member's system expresses time in finer increments; and as of September 2014, approximately 12% of OATS records contain time stamps greater than one millisecond. EBS records either do not contain times or express time stamps in seconds.[573]

Thus, to the extent that some current data sources report time stamps in increments coarser than a millisecond, which is the case for 12% of OATS records and all EBS records, the Commission expects the CAT millisecond time stamp requirement to improve data, and thereby allow regulators to more accurately determine the sequence of market events relative to surrounding events.

The Commission preliminarily believes, however, that benefits from the more granular time stamps could be limited by the level of clock synchronization required by the Plan. In particular, the Commission believes that time stamp granularity would not be the limiting factor in sequencing accuracy, because recording events with time stamps with resolutions of less than one millisecond cannot help to sequence events occurring on different venues with clocks that may be 100 milliseconds out of sync due to clock synchronization offsets.[574] Therefore, Start Printed Page 30685the benefits of time stamping order events at increments finer than a millisecond would be limited without also improving the clock synchronization standards of the Plan.

(3) Linking and Combining Data

The Commission believes the requirements of Rule 613 and the Plan related to data linking would result in improvements to the accuracy of the data available to regulators, but the extent of the improvement would depend on the accuracy of the linking algorithm and the reformatting process that the Plan Processor would eventually develop.

As discussed in the Baseline, data is currently stored in multiple formats, is difficult to merge, and results in errors during the merging process. Moreover, in some cases, the data sources do not capture the information necessary to link records, while in other cases linking must be done with algorithms that accomplish the linking with some degree of error.

Rule 613(e)(1) generally requires the creation and maintenance of a Central Repository that would receive, consolidate, and retain information reported to the CAT.[575] Further, the rule requires that the Central Repository store and make available to regulators data in a uniform electronic format and in a form in which all events pertaining to the same originating order are linked together in a manner that ensures timely and accurate retrieval of information reported to the CAT.[576]

The Commission preliminarily believes that the requirement that data be stored in a uniform format would eliminate the need for regulators who are accessing the data to reformat the data. As noted in the Baseline Section above, regulators face delays and inaccuracies when attempting to reformat and link data from multiple sources, such as linking trade blotters from several broker dealers with SRO audit trails. Given that the reformatting of CAT Data would be accomplished by individuals that likely specialize in this activity and that repetitively do so in a prescriptive and formalized way, this requirement could reduce the errors that could be introduced in the current regime where reformatting data is often done on an ad hoc basis by regulatory Staff who need to work with the data.[577] In other words, the Plan Processor would develop a reformatting process by working with CAT Reporters to build an expertise in harmonizing the various formats that it receives from Reporters. The Plan Processor could then build, test, and refine the reformatting process with the ability to go back to the CAT Reporters for further clarification. Even if only one Staff member at each SRO or Affiliated Participant developed the expertise necessary to reformat each of the various formats and ran a reformatting process on order data, this would result in a duplication of efforts compared to one centralized entity (the Plan Processor) developing the expertise and running the reformatting process. Storing data in a linked format removes the need for regulators to link information from multiple lifecycle events of an order or orders themselves, which could further reduce errors and increase the usability of the data. The Commission recognizes, however, that despite the potential improvements, the CAT Data could still contain errors introduced in the reformatting and linking processes.

The process for linking orders designated in the CAT NMS Plan is similar to the process FINRA currently uses to link OATS records across market participants. However, the Plan would significantly improve the ability of regulators to link order events compared to OATS, and would link this activity to specific customers unlike current audit trail data.[578] CAT Reporters must report a series of unique identifiers that are designed to allow records of events that occur over the order's lifecycle to be linked together to determine how the order was handled and how the order interacted with other orders.[579] The Plan Processor must then create the initial linkages in the submitted data; unlike in OATS, the Plan Processor would verify these linkages as part of its data validity checks.[580] In general, the CAT NMS Plan would link orders using the “daisy chain approach,” where CAT Reporters assign their own identifiers to each order event that the Plan Processor later replaces with a single identifier (the CAT Order-ID) for all order events pertaining to the same order.[581] The Central Repository at a minimum must be able to create linkages between all order events that are internalized, between the Customer execution and a proprietary order in the case of a riskless principal transaction, between two broker-dealers, between a broker-dealer and an exchange, and vice versa, between executed orders and trade reports, between various legs of option/equity complex orders, and between order events for all equity option order handling scenarios that currently are or could potentially be used by CAT Reporters.[582]

Unlike OATS data, CAT Data would be less prone to breaking the order lifecycle chain when an order is sent across market participants because the order lifecycle linking procedure across reporters would be uniform and all industry participants would be reporters.[583] Currently, linking procedures across SROs are not uniform, which complicates reconstructing order lifecycles. Furthermore, because some broker-dealers are not required to report to OATS, these broker-dealers' activity cannot be completely reconstructed from audit trail data, and therefore, orders that they handle cannot be traced through their lifecycle, effectively severing the links between the order being received and the order's final disposition. Furthermore, as covered elsewhere, unlike other data sources, CAT Data would link orders to Customers because the Plan requires the order lifecycle to be linked back to the original Customer, and the Plan Processor must be able to fix linkages when error correction files are submitted.[584] While the success of such a matching process is dependent on the accurate reporting of order linkages by CAT Reporters,[585] Appendix D directs the Plan Processor to ensure that breaks in certain lifecycle linkages must not cause the entire lifecycle to break or Start Printed Page 30686cause a CAT Reporter that correctly reports information to have its submission rejected.[586]

The CAT NMS Plan does not provide sufficiently detailed information for the Commission to estimate the likely Error Rates associated with the linking process required by the CAT NMS Plan. Indeed, the 5% Error Rate covers data from CAT Reporters, but the Plan Processor could create errors as well, for example, through the linking process. Further, the Plan does not include details on how the Plan Processor would perform the linking process, identify broken linkages, and seek corrected reports from CAT Reporters to correct broken linkages. Instead, the Plan defers key decisions regarding the validation process until the selection of a Plan Processor and the development of Technical Specifications.[587] Accordingly, while the centralized linking should generally promote efficiencies and accuracies in linking, these uncertainties make it difficult for the Commission to gauge the degree to which the process for linking orders across market participants and SROs would improve accuracy compared to existing data, including OATS.[588]

Uncertainties also prevent the Commission from determining whether the process for converting data into a uniform format at the Central Repository would improve the accuracy of the data over existing audit trail accuracy rates. The Plan includes two alternative approaches to data conversion. In the first, called Approach 1, CAT Reporters would submit data to the Central Repository in an existing industry standard protocol of their choice such as the Financial Information eXchange (“FIX”) protocol. In Approach 2, CAT Reporters would submit data to the Central Repository in single mandatory specified format, such as an augmented version of the OATS protocol. Under Approach 1, the data must be converted into a uniform format at the Central Repository in a second step. Under Approach 2, the data is already in a uniform format at the time of submission. The Plan defers the decision regarding which approach to take until the selection of a Plan Processor and the development of Technical Specifications.

The Commission preliminarily believes that Approach 1 would likely result in a lower Error Rate than Approach 2. Under Approach 1, the CAT Reporters would presumably be submitting the actual data captured in real time without having to translate it into another format. In addition, under Approach 1, the conversion would be performed at the Central Repository by the Plan Processor, rather than the conversion being performed by each of the approximately 1,800 individual CAT Reporters or their vendors, which should reduce potential points where errors in formatting could be introduced, and provide for economies of scale.[589] This would likely result in increased efficiency and accuracy due to specialization by the Plan Processor. However, while the Commission preliminarily believes that Approach 1 is likely to result in greater data accuracy than Approach 2, because of uncertainties regarding expected Error Rates and error rates in current data, the Commission is unable to evaluate the degree to which that approach would improve data accuracy relative to currently available data.[590]

Uniquely complex situations also pose a difficulty for assessing the ability of the Plan Processor to build a complete and accurate database of linked data that regulators could query for regulatory purposes. First, the Plan requires the Plan Processor, in consultation with industry, to develop a linking mechanism that would allow the option and equity legs of multi-leg trades to be linked within the Central Repository.[591] Because the mechanism for this linkage is not yet determined, the Commission cannot assess the degree of the expected linkage error rate but, given that equities are not linked to options in current data sources, the Commission expects this feature to significantly improve the accuracy of linking equities to options.

Second, the Commission in the Proposing Release noted concern about the ability of the daisy chain approach to link a Customer order and a member's order from which the Customer is provided with an allocation.[592] The Plan addresses this concern in the definition of an Allocation Report, which is a report that identifies accounts and subaccounts to which executed shares are allocated, but that is not required to be tied to a particular order or execution.[593] The Report is required to be submitted to the Central Repository,[594] but the lack of linkages in this case could make the resulting data less useful. Specifically, the content of the Allocation Report and the order lifecycles must contain content that permits regulators to draw certain conclusions about subaccount allocations even without a clean linkage.

While uncertainty about this issue remains, the Commission notes that the Plan's requirement for standardized Allocation Reports that consistently and uniquely identify Customers and reporters should improve the linkability of allocation information compared to current data, despite the limitation of direct linkage to order lifecycles, particularly in scenarios where potentially violative conduct is carried out by market participants operating through multiple broker dealers. This moderate improvement in the linkability of allocation data should improve regulators' ability to identify market participants who commit violations related to improper subaccount allocations.

(4) Customer and Reporter Identifiers

The Commission preliminarily believes that the inclusion of unique Customer and Reporter Identifiers described in the CAT NMS Plan would increase the accuracy of customer and broker-dealer information in data regulators use and provide benefits to a broad range of regulatory activities that involve audit trail data.

Currently, only a few data sources, which typically cover only a small portion of order lifecycles, include information regarding customers.[595] Further, the customer information in these data sources is often incomplete Start Printed Page 30687and inconsistent and the data is currently only obtainable by regulators making requests to broker-dealers directly. Additionally, although broker-dealer identifiers, in the form of MPID numbers, CRD numbers, and clearing broker numbers, appear within the current sources of audit trail data, because of the lack of a centralized database and because these identifiers may vary across exchanges, the Commission faces challenges in relying on these identifiers to accurately identify broker-dealer activity across the market.[596]

Rule 613 requires the use of a unique Customer-ID that identifies the Customer involved in CAT Reportable Events.[597] Based on a concern that requiring CAT Reporters to report a Customer-ID to the Central Repository with each order would disrupt existing business practices and that reporting on that basis could risk the leakage of order and Customer information into the market,[598] the Plan requires the Plan Processor to translate a unique Customer identifier assigned by the firm to its Customer (the Firm Designated ID) into the Customer-ID to be used in CAT.[599] Specifically, the Plan requires CAT Reporters to provide a Firm Designated ID for each Customer, which is defined as the unique identifier designated by the broker-dealer for each trading account for purposes of providing data to the Central Repository.[600] Upon receipt of the Firm Designated ID, the Plan Processor would be required to generate and associate one or more Customer-IDs for orders received by the Customer of the CAT Reporter, which would also be linked to the relevant Reportable Events for that Customer's order. Pursuant to the Plan, therefore, the Customer-ID would be generated from the Firm Designated ID,[601] and the Plan Processor would create a unique Customer-ID that would be consistent across that Customer's activity regardless of the originating broker-dealer.

To facilitate the creation of Customer-IDs, certain information would be submitted to the Central Repository. Specifically, broker-dealers would be required to submit an initial set of information identifying a Customer to the Central Repository, including the Firm Designated ID and the other biographical information associated therewith including, for an individual, name, address, date of birth, ITIN/SSN, and individual's role in the account (e.g., primary holder, joint holder, guardian, trustee, person with power of attorney). With respect to legal entities, identifying information would include: name, address, EIN/LEI or other comparable common entity identifier.[602] Broker-dealers must also submit to the Central Repository daily updates for reactivated accounts, newly-established or revised Firm Designated IDs, or other associated reportable Customer information.[603] The Plan also calls for periodic refreshes of all Customer information from CAT Reporters.[604] And the Plan Processor must have a way to periodically receive full account lists (i.e., not just the daily changes) to ensure the completeness and accuracy of the database.[605]

Based on this information, the Plan Processor has to “maintain information of sufficient detail to uniquely and consistently identify each Customer across all CAT Reporters, and associated accounts from each CAT Reporter.” [606] It is the Plan Processor's responsibility to document and publish, with the approval of the Operating Committee, the minimum list of data elements needed to maintain this association. Appendix D sets forth a list of minimum data elements needed to identify each Customer across all CAT Reporters, and associated accounts within a CAT Reporter, including SSN or ITIN, date of birth, current name, current address, previous name and address; and for legal entities, the LEI (if available), tax identifier, full legal name, and address.[607] The Plan Processor must also support account structures that have multiple account owners and associated Customer information (e.g., joint accounts, managed accounts), and must be able to link accounts that move from one CAT Reporter to another,[608] so it is possible that additional data fields would be necessary. Once a database is established, it must be maintained over time, and provide ready access to regulators to historical changes to that information.[609]

The Commission preliminarily believes that approval of the Plan would likely further remedy some of the inconsistencies and other limitations mentioned above. The Plan also contains provisions related to the accuracy of submitted Customer information. For example, a robust data validation process must be established for submitted Customer and Customer Account Information.[610] There must also be a robust error resolution process for Customer information. The Central Repository must be able to accommodate minor data discrepancies (e.g., Road versus Rd in an address) on its own, while more substantial discrepancies (e.g., two different persons with the same SSN) would need to be transmitted to the CAT Reporter for resolution within the established error correction timeframe.[611] While these elements should help increase the accuracy of Customer identification within CAT, there are some uncertainties, as the precise methods for submitting Customer data to the Central Repository, along with validations, are to be set out in Technical Specifications in the future.[612]

In addition to Customer-IDs, the CAT NMS Plan calls for the use of CAT-Reporter-IDs. The data to be reported to the Central Repository includes the SRO-assigned Market Participant Identifier (MPID) of the Industry Member or Participant receiving, routing, or executing the order.[613] Upon receipt of the data, the Plan Processor must map the SRO-assigned MPID to a CAT-Reporter-ID, which would be assigned by the Plan Processor in the CAT data.[614] Specifically, the Plan Processor must be able to assign a CAT-Reporter-ID to all reports submitted to the Central Repository based on SRO-assigned MPIDs. To the extent that the different Participants assign the same MPID to different CAT Reporters, the Plan Processor must be able to properly associate the correct SRO-assigned Start Printed Page 30688MPIDs with the CAT Reporters.[615] To do this, the Plan Processor must develop and maintain a mechanism for assigning CAT-Reporter-IDs based on the relevant SRO-assigned identifier (MPID, ETPID, or trading mnemonic) currently used by CAT Reporters in their order handling and trading processes, and also to change those identifiers should that be necessary (e.g., in the event of a merger), although changes are expected to be infrequent.[616] Moreover, the SROs would have an obligation to provide all their SRO-assigned MPIDs to the Central Repository on a daily basis to ensure the accuracy of the information used to assign the CAT-Reporter-ID. The Plan Processor must capture, store, and maintain this information in a master/reference database, similar to how the Plan Processor would handle symbology changes.[617] Finally, the validity of the SRO-assigned MPID is part of the initial file validation process upon receipt of a submission from a CAT Reporter, which should facilitate the accuracy of the Plan Processor's subsequent assignment of the CAT-Reporter-ID.[618]

The Commission preliminarily believes that the Customer-ID approach in the CAT NMS Plan would significantly improve the accuracy of customer information available to regulators. As noted above, existing data does not consistently capture information about the customers involved in a trade or other market event, which negatively affects the ability of regulators to accurately track customers' activities across broker-dealers. Additionally, customer identities in many existing data sources use inconsistent definitions and mappings across market centers. Accordingly, it is difficult for regulators to identify the trading of a single customer across multiple market participants.[619] The Customer-ID approach specified in the CAT NMS Plan constitutes a significant improvement because it would consistently identify the Customer responsible for market activity, obviating the need for regulators to collect and reconcile Customer identification information from multiple broker-dealers. This should reduce the risk of the introduction of errors into the data by regulators and save a significant amount of time.

Furthermore, the Commission preliminarily believes that the Reporter ID approach specified in the CAT NMS Plan would improve the accuracy of tracking information regarding entities with reporting obligations, namely broker-dealers and SROs. Because the Commission currently face challenges in using MPIDs and CRD numbers, for example, to identify broker-dealers across the market, the Plan's requirement for consistent unique Reporter IDs would eliminate the need for the Commission to reconcile broker-dealer information from multiple data sources, which can be a costly task for regulatory Staff that is often limited in terms of accuracy by the inconsistencies and non-uniqueness of current identifiers, and facilitate more efficient and effective regulatory activities that protect investors from harm. Moreover, because CAT Data would include more Industry Members in the Reporter ID category than are currently in any current set of broker-dealer identifiers, the Commission preliminarily believes that approval of the Plan would likely further remedy some of the inconsistencies and other limitations mentioned above.

(5) Aggregation

Most CAT Data would be disaggregated data, meaning that CAT Data would not suffer from the limitations that characterize some of the aggregated data sources that regulators must currently use. As mentioned in the Baseline Section, subaccount allocation data and issuer repurchase data exist in forms that are aggregated and thus these data sources are limited for use in certain regulatory activities and interests.[620] In particular, neither data type may necessarily indicate the individual executions. This data feature should promote more effective and efficient investigation by regulators of subaccount allocation issues and repurchase activity.

To meet the requirements of Rule 613, the CAT NMS Plan includes a required allocation reporting tool that would provide information on executions that are allocated to multiple subaccounts.[621] The Allocation Reports required by the Plan would provide the Firm Designated ID for any account(s), including subaccount(s) to which executed shares are allocated, the security that has been allocated, the identifier of the firm reporting the allocation, the price per share of shares allocated, the side of shares allocated, the number of shares allocated to each account, and the time of the allocation.[622] The Firm Designated IDs could facilitate linking back to the Customer-ID, so it may not be possible to perfectly link a Customer's aggregated orders, executions, and allocations for a day.[623]

The Commission preliminarily believes that the CAT NMS Plan would improve the accuracy of allocation data compared to existing data available to regulators. It would provide disaggregated information on the identity of the security, the number of shares and price allocated to each subaccount, when the allocation took place, and how each Customer subaccount is associated with the master account. This would more accurately reflect which Customer ultimately received the shares that were purchased in a particular trade.

The Commission anticipates that regulators may use CAT Data for some purposes that they use cleared data for now because CAT is significantly less aggregated. As discussed above, regulators often used equity and option cleared reports to identify market participants involved in trading activity relevant to an investigation.[624] Because these are aggregated, regulators can use them to identify clearing firms that may have higher volume in a particular stock on a particular day, but the data does not identify actual trades, and, therefore, regulators make data requests to access the underlying disaggregated data necessary to identify broker-dealers or customers that may be involved in the activity under investigation. If the CAT NMS Plan is approved, CAT Data could be used to identify individual trades and customers or other market participants who were involved in such activity with less delay and without requiring ad hoc data requests to clearing firms identified using equity or option cleared reports.

Likewise, the disaggregated issuer repurchase information that would be in the CAT data would be an improvement in the accuracy of information available to regulators about those issuer repurchases. In particular, the Plan would require that the Plan Processor link Customer information to the order lifecycle and the report would identify as Customers those issuers that are Start Printed Page 30689repurchasing their stock in the open market.[625] This would provide much more granular data than what is available currently for open market issuer repurchases, which consists of monthly aggregations of those issuer repurchases.[626]

c. Accessibility

In general, the Commission believes that the Plan, if approved, would substantially improve the accessibility of regulatory data by providing regulators with direct access to the consolidated CAT Data, including some data elements that currently take weeks or months to obtain. However, there is some uncertainty regarding the process for regulatory access under the Plan, which creates uncertainty as to the degree of the expected improvement.[627]

(1) Direct Access to Data

As discussed in the Baseline Section,[628] one of the significant limitations of current regulatory data sources is lack of direct access. Rule 613(e)(1) requires the Central Repository to store and make available to regulators data in a uniform electronic format and in a form in which all events pertaining to the same originating order are linked together in a manner that ensures timely and accurate retrieval of the information for all Reportable Events for that order.[629] Additionally, Rule 613(a)(1)(ii) requires that the CAT NMS Plan discuss the time and method of access by which the data would be made available to regulators.[630] The CAT NMS Plan implements this requirement in Section 6.5(c) [631] and further describes the direct access methods and functionality in the discussion of Consideration 2 and in Appendix D.[632] Section 6.5(c) requires that the Participants and the Commission have access to the Central Repository, and access to and use of the CAT Data stored at the Central Repository, and further requires a method of access to the data that provides for the ability to run searches and generate reports, including complex queries. Specifically, the Central Repository must store 6 years of CAT data in a “convenient and usable standard electronic format” that is “directly available and searchable electronically without any manual intervention by the Plan Processor.” [633] This access to the Central Repository is solely for the purpose of performing regulatory functions and must include the ability to run searches and generate reports; further, the Plan requires that the Central Repository shall allow the ability to return results of queries that are complex in nature, including market reconstructions and the status of order books at varying time intervals.[634] The Central Repository must also maintain valid Customer and Customer Account Information and permit regulators access to “easily obtain historical changes to that information (e.g., name changes, address changes).” [635]

The Commission recognizes that improving accessibility relative to the Baseline requires ensuring that enough SRO and Commission Staff members are able to use the direct access system supplied by the Central Repository when they need it. The ability to use the direct access system depends, among other things, on how user-friendly the system is, whether it has enough capacity for the expected use of the system, and whether it contains the functionality that the SROs and Commission Staff require. The Commission preliminarily believes that the minimum requirements for the direct access system would ensure that the Plan would improve on the Baseline of access to current data, including the process of requesting data.

Appendix D provides minimum functional and technical requirements that must be met by the Technical Specifications to facilitate these methods of access, including the methods of selecting data that must be supported, query and bulk extract performance standards, and formats in which data could be retrieved.[636] Specifically, CAT must be able to support a minimum of 3,000 regulatory users within the system, 600 of which might be accessing the system concurrently (which must be possible without an unacceptable decline in system performance) [637] : 20% of the 3,000 users would be daily or weekly users, and 10% would require advanced regulatory-user access.[638] Advanced user access includes the ability to run complex queries (versus basic users who may only run basic queries).[639]

Two types of query interfacing must be supported. The first, an online targeted query tool, must include a date or time range, or both, and allow users to choose from a broad menu of 26 pre-defined selection criteria (e.g., data type, listing market, size, price, CAT-Reporter-ID, Customer-ID, or CAT-Order-ID), with more to be defined at a later date.[640] Results must be viewable in the tool or downloadable in a variety of formats and support at least a result size of 5,000 or 10,000 records, respectively, with a maximum result size to be determined by the Plan Processor.[641] The other method for regulator access to the data is a user-defined direct query or bulk extraction.[642] CAT must be able to support at least 3,000 daily queries, including 1,800 concurrently, and up to 300 simultaneous query requests with no performance degradation.[643] Datasets generated by these direct queries could run from less than 1 GB to at least 10 TB or more of uncompressed data.[644]

The actual method of query support is to be determined by the Plan Processor, but must provide an open API that allows use of regulator-supplied common analytic tools (e.g., Python, Tableau) and ODBC/JDBC drivers.[645] The Plan Processor is permitted to define a “limited set of basic required fields (e.g., date and at least one other field such as symbol, CAT-Reporter-ID, or CAT-Customer-ID)” that must be used by regulators in direct queries.[646] Direct queries must be able to be created, saved, and run by regulators (either directly or at a prescheduled time), with automated delivery of scheduled query results.[647] Finally, the Plan Processor must provide data models and data dictionaries for all processed and unlinked CAT Data, and Start Printed Page 30690the Plan Processor must provide procedures and training to regulators that would use the direct query feature (although it is up to the Plan Processor whether to require these training sessions).[648] Consideration was given to requiring the Plan Processor to create an online Report Center that would provide pre-canned reports (i.e., recurring reports of interest to regulators), but due to the added complexity and lack of quantifiable use cases, the decision was made not to proceed. The Plan, however, provides that this decision would be reassessed when broker-dealers begin submitting data to the CAT.[649]

All queries must be able to be run against raw (i.e., unlinked) or processed data, or both. A variety of minimum performance metrics apply to these queries.[650] The Plan Processor must also provide certain support to regulatory users. Specifically, it must “develop a program to provide technical, operational and business support” to regulators, including creating and maintaining the CAT Help Desk to provide technical expertise to assist regulators with questions and/or functionality about the content and structure of the CAT query capability.[651] The Help Desk must be available 24x7, support email and phone communication, and be staffed to handle 2,500 calls per month (although this resource would not be exclusive to regulators; CAT Reporters could use it as well).[652] The Plan Processor must also develop tools, including an interface, to let users monitor the status of their queries and/or reports, including all in-progress queries/reports and estimated time to completion.[653] In addition, the Plan Processor must develop communication protocols regarding system status, outages, and other issues affecting access, including access by regulators to a secure Web site to monitor CAT System status.[654] Furthermore, the Plan Processor must develop and maintain documentation and other materials to train regulators, including training on building and running queries.[655]

The Commission preliminary believes that the direct access facilitated by provisions of the CAT NMS Plan described above is reasonably designed to substantially reduce the number of ad hoc data requests and provide access to substantial data without the delays and costly time and knowledge investments associated with the need to create and respond to data requests. For example, regulators do not have direct access to EBS or trade blotter data and therefore they must request such data when needed for regulatory tasks. As a result, in 2014 the Commission made 3,722 EBS requests that generated 194,696 letters to broker-dealers for EBS data.[656] Likewise, the Commission understands that FINRA requests generate about half this number of letters. In addition, for examinations of investment advisers and investment companies, the Commission makes approximately 1,200 data requests per year. If the Plan is approved, the Commission preliminarily believes that the number of data requests would decline sharply. In addition to decreasing the amount of time currently required for regulators to access data sources, direct access to the CAT Data should decrease the costs that many regulators and market participants incur in either requesting data or fulfilling requests for data, such as the time and resources that regulators and data liaisons or back office IT staff at broker-dealers expend to understand and access broker-dealer data collected and provided in a particular way.

The Plan would also permit regulators to directly access customer information, which could improve the ability of SROs to conduct surveillance. Rule 613(e)(3) requires that the CAT provide the capability to run searches and generate reports.[657] The CAT NMS Plan indicates that regulators would be able to run searches on many variables, including Customer-IDs.[658] Appendix D further clarifies that both the online targeted query tool and the user-defined query/bulk extract process would produce records that provide Customer-IDs, but that do not themselves provide Customer PII data.[659] Data containing PII, however, could be obtained by regulatory personnel specifically authorized to obtain PII access, through a process to be documented by the Plan Processor.[660] Currently, most regulatory data sources do not directly link to specific customers.[661] Instead, regulators can use an ad-hoc data request to identify the customer and follow up with an EBS request to identify the customer's other activity across market participants. In this regard, CAT would provide SROs with direct access to the data that is necessary to conduct surveillance of the trading behavior of individual market participants in a more timely fashion.[662]

(2) Consolidation of Data

The Commission also preliminarily believes that, if approved, the Plan would improve accessibility by consolidating various data elements into one combined source, reducing data fragmentation. First, Rule 613 requires that the Central Repository collect data that includes the trading and routing of a given security from all CAT Reporters.[663] Currently, audit trail data for securities that are traded on multiple venues (multiple exchanges or off-exchange venues) is fragmented across multiple data sources, with each regulator generally having direct access only to data generated on the trading venues it regulates.[664] If approved, the Plan would bring audit trail data related to trading on all venues into the Central Repository where it could be accessed by all regulators. Second, Rule 613 requires that the Plan include both equity and options data.[665] Currently no existing regulatory audit trail data source includes both options and equities data, so collecting this data and providing access would allow regulators to monitor and run surveillance on the activity of market participants in related instruments, such as when a market participant has activity in both options and the options' underlying assets.

The Plan would also marginally increase the accessibility of historical exchange data. In particular, Section 6.5(b)(i) of the Plan requires that the Central Repository make historical data available for not less than six years, in Start Printed Page 30691a manner that is directly accessible and searchable electronically without manual intervention by the Plan Processor.[666]

In some dimensions of accessibility, the Commission notes that uncertainties exist that could affect the degree of expected improvement to accessibility. In particular, while the Plan provides detail on the method of access and the types of queries that regulators could run, many of the decisions regarding access have been deferred until after the Plan Processor is selected and finalizes the Technical Specifications; the Plan does not specify how regulators would access the data beyond providing for both an online query tool and user-defined direct queries that could do bulk extractions.[667] For example, while the Plan indicates that regulators would have an on-line targeted query tool and a tool for user-defined direct queries or bulk extraction,[668] the Plan itself does not provide an indication for how user-friendly the tools would be or the particular skill set needed to use the tools for user-defined direct queries.

In addition, it is not known whether the Plan Processor would host a server workspace that regulators could use for more complex analyses, what software tools would be available to regulators within such a workspace, and whether complex analyses would be able to be performed without extracting significant data from the Central Repository's database.

While all Bidders included certain baseline functionality, such as some means for regulators to perform dynamic searches, data extraction, and “off-line analysis,” [669] Bidders proposed using a variety of tools to provide regulators with access to and reports from the Central Repository, including direct access portals, web-based applications, and a number of different options for formatting the data provided to regulators in response to their queries.[670] While all of these proposed solutions would presumably be compatible with achieving the accessibility benefits sought to be achieved through the Plan—i.e., they would all involve the aggregation of data from various sources and the provision of ready access to that data for regulators—the precise degree of functionality of the final system is still to be determined. Similarly, the details of system performance would depend on Service Level Agreements to be established between the Plan Participants and the eventual Plan Processor, which means that the details would not be known until after the Plan Processor is selected.[671] These functionality and performance uncertainties create some uncertainty regarding the degree of improvement in regulatory access that would result from the Plan.

Nonetheless, the requirements included in the Plan describe a system that, once implemented, would result in the ability to query consolidated data sources that represents a significant improvement over the currently available systems. This substantial reduction in data delays and costly data investments would permit regulators to complete market reconstructions, analyses, and research projects, as well as investigations and examinations, more effectively and efficiently and would lead to improved productivity in the array of regulatory matters that rely on data, which should lead to improved investor protection.

d. Timeliness

The Commission believes that, if approved, the CAT NMS Plan would significantly improve the timeliness of the reporting, compiling, and access of regulatory data, which would benefit a wide array of regulatory activities that use or could use audit trail data.[672] The Commission preliminarily believes that the timeline for compiling and reporting data pursuant to the Plan constitutes an improvement over the processes currently in place for many existing data sources, and relative to some data sources the improvement is dramatic. Specifically, under the Plan, CAT Data would be compiled and made ready for access faster than is the case today for some data, both in raw and in corrected form; regulators would be able to query and manipulate the CAT Data without going through a lengthy data request process; and the data would be in a format to make it more immediately useful for regulatory purposes.

(1) Timing of Initial Access to Data

The Plan would require CAT Reporters to report data to the Central Repository at times that are on par with current audit trails that require reporting, but the Central Repository would compile the data for initial access sooner than some other such data.[673] Sections 6.3(b)(ii) and 6.4(b)(ii) of the Plan require that the data required to be collected by CAT Reporters must be reported to the Central Repository by 8:00 a.m. Eastern Time on day T+1.[674] These provisions also make clear that CAT Reporters could voluntarily report the required data prior to the deadline.[675] As described in Table 4, the time at which data is reported often differs significantly from the time at which data is made available to various regulators.[676] The CAT Data would be made available to regulators in raw form after it is received from reporters and passes basic formatting validations; the Plan does not specify exactly when these validations would be complete, but the requirement to link records by 12:00 p.m. (noon) Eastern Time on day T+1 gives a practical upper bound on this timeline for initial access to the data.[677] Thus, to the extent that access to the raw (i.e., uncorrected and unlinked) data would be useful for regulatory purposes, the CAT NMS Plan provides a way for SROs and the Commission to access the uncorrected and unlinked data on day T+1 by 12:00 p.m. at the latest.

As noted in the Baseline, some current data sources compile and report the data with delays. For example, equity and option clearing data are not compiled and reported to the NSCC and OCC until day T+3, and thus access to this data by the Commission cannot occur until day T+3 at the very soonest. Under the Plan, raw data would be available two days sooner to all regulators. In other cases such as EBS reports, the data are not compiled and reported to a centralized database until Start Printed Page 30692a request is received.[678] OATS data is initially reported to FINRA by 8 a.m. on the calendar day following the reportable event, and it takes approximately 24 hours for FINRA to run validation checks on the file.[679] However, SROs do not currently access OATS information for regulatory purposes until after the error correction process is complete, which imposes a further delay of several business days for non-FINRA SRO regulators' use.[680] Uncorrected OATS data is, however, available at 8 a.m. on the calendar day following the reportable event to FINRA (several hours more timely than CAT Data would be)—and is available to other regulators upon request several weeks later.[681] Uncorrected CAT Data would be available to all regulators at 12:00 p.m. on day T+1, which is at least several days sooner than OATS is available to non-FINRA regulators; however, the Commission notes that because OATS is reportable on the calendar day following the OATS-reportable event while CAT would be reported on T+1 following a Reportable Event, regulators' access to CAT Data from a day preceding a non-trading day (Fridays or days before market holidays) is likely to be less timely than it is currently, if that data would be covered by OATS. However, to the extent that the CAT would generally make CAT Data, which would include substantially more information than OATS data, available to all regulators, as opposed to just FINRA, in raw form by at least 12:00 p.m. Eastern Time on day T+1, the CAT would generally represent a significant improvement in timeliness for SROs other than FINRA compared to OATS.

It is true that the Plan would not necessarily improve the timeliness of audit trail data in every case or for every regulator, as some kinds of audit trail data are currently timely for some regulators. For example, exchange SROs already have real-time access to their own audit trail data.[682] However, regulators at other SROs or the Commission do not have real-time access to that exchange's audit trail, and therefore CAT Data could be more timely for these other regulators to access and use than obtaining that exchange's audit trail data through any means.[683]

(2) Timeliness of Access to Error-Corrected Data

Further, the Commission preliminarily believes that the error correction process required by the CAT NMS Plan is reasonably designed to provide additional improvements in timeliness for corrected data. The CAT NMS Plan specifies that the initial data validation and communication of errors to CAT Reporters must occur by noon on day T+1, corrections of these errors must be submitted by the CAT Reporters to the Central Repository by 8:00 a.m. Eastern Time on day T+3, and the corrected data made available to regulators by 8:00 a.m. Eastern Time on day T+5.[684] During this interim time period between initial processing and corrected data availability, “all iterations” of processed data must be available for regulatory use.[685] The Central Repository must be able to receive error corrections at any time, even if late; [686] if corrections are received after day T+5, the Plan Processor must notify the SEC and SROs of this fact and how re-processing of the data (to be determined in conjunction with the Operating Committee) would be completed.[687] Customer information (i.e., information containing PII) is processed along a slightly different timeline, but the outcome—corrected data available by 8:00 a.m. Eastern Time on day T+5—is the same.[688] One exception to this timeline is if the Plan Processor has not received a significant portion of the data, as determined according to the Plan Processor's monitoring, in which case the Plan Processor could determine to halt processing pending submission of that data.[689]

As discussed in the Baseline Section, the error resolution process for OATS is limited to five business days from the date a rejection becomes available.[690] The CAT NMS Plan requires a three-day repair window for the Central Repository.[691] Accordingly, if the Plan is approved, regulators would generally be able to access partially and fully corrected data earlier than they would for OATS.[692]

(3) Timeliness of direct access

Improvements to timeliness would also result from the ability of regulators to directly access CAT Data.[693] As noted in the Baseline Section and throughout this Section, most current data sources do not provide direct access to most regulators, and data requests can take as long as weeks or even months to process. Other data sources provide direct access with queries that can sometimes generate results in minutes—for example, running a search on all MIDAS message traffic in one day can take up to 30 minutes [694] —but only for a limited subset of the data to be available in CAT, and generally only for a limited number of regulators. Accordingly, the Commission preliminarily believes that the ability of regulators to directly access and analyze the scope of audit trail data that would be stored in the Central Repository should reduce the delays that are currently associated with requesting and receiving data. For many purposes, therefore, CAT Data could be up to many weeks more timely than current data sources. Furthermore, direct access to CAT Data should reduce the costs of making ad hoc data requests, including extensive interactions with data liaisons and IT staff at broker-dealers, SROs, and vendors, developing specialized knowledge of varied formats, data structures, and systems, and reconciling data.

As discussed above, Rule 613 generally requires that the Central Start Printed Page 30693Repository would receive, consolidate, and retain CAT Data in a linked uniform electronic format and the regulators would be able to directly access the data stored in the Central Repository.[695] Queries take time to return data because they need to look up information across a range of data records, process that data, and compile it into an output dataset. Therefore, the improvements to timeliness depend on how long the queries take to return data. The CAT NMS Plan specifies that regulators would be able to query the Central Repository using an online targeted query tool with response times “measured in time increments of less than a minute” for targeted queries and within 24 hours for large or complex queries that either scan large amounts of data or return large result sets (i.e., sets of over 1 million records).[696] That said, if the data request is limited to one business date, and that business date is within the last 12-month period, the query must not take more than 3 hours to run, regardless of complexity.[697] Specifically, searches including only equities and options trade data must be returned within either 1 minute (events for a specific Customer or CAT Reporter with filterable other fields); 30 minutes (events for a specific Customer or CAT Reporter in a specified date range of less than 1 month); or 6 hours (events for a single Customer or CAT Reporter in a specified date range of up to 12 months within the last 24 months).[698] Searches including equities and options trade data, along with NBBO data, must return within 5 minutes for all orders for a specific security from a specific Participant; and for all orders, cancellations, and NBBO (or the protected best bid and offer) for a specific security, and with several similar types of searches, within a specified window not to exceed 10 minutes for a single date.[699]

Furthermore, the search tool must include a resource management component, which could manage query requests to balance the workload, and categorize and prioritize query requests based on the input parameters, complexity of the query, and the volume of data to be parsed in the query, with the details on the prioritization plan to be provided at a later date.[700] The database must support the estimated 600 concurrent users to ensure that there is not an unacceptable decline in system performance.[701] The direct query and bulk extract features are also designed to ensure timely regulatory access to critical data. For example, the bulk extract of an entire day's worth of data should be able to be transferred in less than four hours (assuming the regulator's network could support the required data transfer speeds).[702] The Plan Processor must have an automated mechanism to monitor user-defined direct queries and bulk data extracts, including automated alerts of issues with bottlenecks and excessively long queues for queries or data extractions.[703] Monthly reporting on the delivery and timeliness of these tools to the Operating Committee and regulators is required.[704]

(4) Timeliness of use of Data

The Commission also preliminarily expects the CAT NMS Plan to reduce the time required to process data before analysis. Currently regulators can spend days and up to months processing data they receive into a useful format.[705] Part of this delay is due to the need to combine data across sources that could have non-uniform formats and to link data about the same event both within and across data sources. As discussed above, these kinds of linking processes can require sophisticated data techniques and substantial assumptions, and can result in imperfectly linked data. The Plan addresses this issue by stating that the Plan Processor must store the data in a linked uniform format.[706] Specifically, the Central Repository will use a “daisy chain” approach to link and reconstruct the complete lifecycle of each Reportable Event, including all related order events from all CAT Reporters involved in that lifecycle.[707] Therefore, regulators accessing the data in a linked uniform format would no longer need to take additional time to process the data into a uniform format or to link the data.[708] Accordingly, the Commission preliminarily believes that the Plan would reduce or eliminate the delays associated with merging and linking order events within the same lifecycle. Further, the Plan would improve the timeliness of FINRA's access to the data it uses for much of its surveillance by several days because the corrected and linked CAT Data would be accessible on T+5 compared to FINRA's T+8 access to its corrected and linked data combining OATS with exchange audit trails.

The expected improvements to data accuracy discussed above could also result in an increase in the timeliness of data that is ready for analysis, although uncertainty exists regarding the extent of this benefit.[709] As noted in the Baseline, regulators currently take significant time to ensure data is accurate beyond the time that it takes data sources to validate data. In some cases, data users may engage in a lengthy iterative process involving a back and forth with the staff of a data provider in order to obtain accurate data necessary for a regulatory inquiry. Accordingly, to the extent that the Central Repository's validation process is sufficiently reliable and complete, the duration of the error resolution process regulators would perform with CAT Data may be shorter than for current data. Further, to the extent that the Central Repository's linking and reformatting processes are sufficiently successful, the SROs and Commission may not need a lengthy process to ensure the receipt of accurate data. However, as discussed above, the Commission lacks sufficient information on the validations, linking, and reformatting processes needed to draw a strong conclusion as to whether users would take less time to validate CAT Data than they take on current data.[710] Nonetheless, the Commission preliminarily believes that the linking and reformatting processes at the Central Repository would be more accurate than the current decentralized processes such that it would reduce the time that regulators spend linking and reformatting data prior to use.

2. Improvements to Regulatory Activities

The Commission preliminarily believes that improvements in the quality of available data have the potential to result in improvements in the analysis and reconstruction of market events; market analysis and research in support of regulatory Start Printed Page 30694decisions; and market surveillance, examinations, investigations, and other enforcement functions.

Regulators' abilities to perform analyses and reconstructions of market events would likely improve, allowing regulators to more quickly and thoroughly investigate these events. This would allow regulators to provide investors and other market participants with more timely and accurate explanations of market events, and to develop more effective responses to such events. The availability of the CAT Data would benefit market analysis and research in support of regulatory decisions, facilitating an improved understanding of markets and informing potential policy decisions. Regulatory initiatives that are based on an accurate understanding of underlying events and are narrowly tailored to address any market deficiency should improve market quality and benefit investors.

In the Commission's preliminary view, CAT Data would substantially improve both the efficiency and effectiveness of SRO broad market surveillance programs, which could benefit investors and market participants by allowing regulators to more quickly and precisely identify and address a higher proportion of market violations that occur, as well as prevent violative behavior through deterrence.

The Commission also preliminarily believes that CAT Data would enhance the SROs' and the Commission's abilities to effectively target risk-based examinations of market participants who are at elevated risk of violating market rules, as well as their abilities to conduct those examinations efficiently and effectively, which could also contribute to the identification and resolution of a higher proportion of violative behavior in the markets. The reduction of violative behaviors in the markets should benefit investors by providing investors with a safer environment for allocating their capital and making financial decisions. A reduction in violative behaviors could also benefit market participants whose business activities are harmed by the violative behavior of other market participants. The Commission further believes that more targeted examinations could also benefit market participants by resulting in proportionately fewer burdensome examinations of compliant market participants. A significant percentage of Commission enforcement actions involve trade and order data,[711] and the Commission also preliminarily believes that CAT Data would significantly improve the efficiency and efficacy of enforcement investigations, including insider trading and manipulation investigations.

The Commission further anticipates additional benefits associated with enhanced abilities to handle tips, complaints and referrals, and improvements in the speed with which they could be addressed, particularly in connection with the significant number of tips, complaints, and referrals that relate to manipulation, insider trading, or other trading and pricing issues.[712] The benefits to investor protection of an improved tips, complaints, and referrals system would largely mirror the benefits to investor protection that would accrue through improved surveillance and examinations efficiency.

a. Analysis and Reconstruction of Market Events

The Commission preliminarily believes that, if approved, the Plan would improve regulators' ability to perform analysis and reconstruction of market events. As noted in the Adopting Release, the sooner regulators can complete a market reconstruction, the sooner regulators can begin reviewing an event to determine what happened, who was affected and how, if any regulatory responses might be required to address the event, and what shape such responses should take.[713] Furthermore, the improved ability for regulators to generate prompt and complete market reconstructions could provide improved market knowledge, which could assist regulators in conducting retrospective analysis of their rules and pilots.

The fragmented nature of current audit trail data and the lack of direct access to such data renders market reconstructions cumbersome and time-consuming. Currently, the information needed to perform these analyses is spread across multiple audit trails, with some residing in broker-dealer order systems and trade blotters. Requesting the data necessary for a reconstruction of a market event often takes weeks or months and, once received, regulators then need weeks to reconcile disparate data formats used in different data sources. For example, on the afternoon of May 6, 2010, the U.S. equity and equity futures markets experienced a sudden breakdown of orderly trading when indices, such as the Dow Jones Industrial Average Index and the S&P 500 Index, fell about 5% in five minutes, only to rebound soon after (the “Flash Crash”).[714]

The lack of readily available trade and order data resulted in delays and gaps in the Commission's analysis of the events of the Flash Crash. Ultimately, it took Commission Staff nearly five months to complete an accurate representation of the order books of the equity markets for May 6, 2010.[715] Even then, the reconstruction only contained an estimated 90% of trade and order activity for that day.

Regulators, such as the Commission and SROs on whose exchanges events took place, faced similar challenges when reconstructing events around the May 2012 Facebook IPO, the August 2012 Knight Securities “glitch,” and the August 2013 NASDAQ SIP outage.[716] In addition, during the financial crisis in 2008, the lack of direct access to audit trail data resulted in the Commission being unable to quickly and efficiently conduct analysis and reconstruction of Start Printed Page 30695market events. The state of OATS data in 2008 also limited FINRA's ability to analyze and reconstruct the market during the financial crisis because FINRA could not yet augment its OATS data with exchange data and OATS did not include market maker quotations. As a result, regulators had little information about the role of short sellers in market events and the identity of short sellers during the financial crisis, for example.[717] Some of these shortcomings in regulatory data still apply today.[718]

More generally, regulators face significant difficulties in using some current data sources for a thorough market reconstruction. Some of the most detailed data sources, including sources like EBS and trade blotters that identify customers, are impractical for broad-based reconstructions of market events. In particular, including EBS data for a reconstruction of trading in the market for even one security on one day could involve many, perhaps hundreds, of requests, and would require linking that to SRO audit trail data or public data.[719] Further, because EBS data lacks time stamps for certain trades,[720] use of EBS data in market reconstructions requires supplementation with data from other sources, such as trade blotters.

The Commission therefore expects that improvements in data completeness and accuracy from the Plan would enhance regulators' ability to perform analyses and to reach conclusions faster in the wake of a market event by reducing the time needed to collect, consolidate and link the data. The inclusion of Customer-IDs and consistent CAT-Reporter-IDs in CAT would allow regulators to more effectively and efficiently identify market participants that submit orders through several broker-dealers and execute on multiple exchanges and whose activity may warrant further analysis. This would be useful if regulators were interested in determining if a particular trader or category of traders had some role in causing the market event, or how they might have adjusted their behavior in response to the event, which could amplify the effects of the root cause or causes. Furthermore, the clock synchronization requirements of the Plan would improve the ability of regulators to sequence some events that happened in different market centers to better identify the causes of market events. Overall, the Commission preliminarily believes that, if the Plan is approved, regulators would have dramatically improved ability to identify the market participants involved in market events.

The Commission further believes that better data accessibility would significantly improve the ability of regulators to analyze and reconstruct market events. As noted above, CAT Data would improve data accessibility relative to every other data source because all SROs and the Commission would have direct access to CAT Data. If the Plan is approved, much of this information would be housed in the Central Repository with query capabilities that would allow regulators to access raw data beginning the day after an event.[721] Further, as mentioned below in the SRO Surveillance Section, the CAT Data would link Reportable Events, which could allow regulators to respond to market events more rapidly because they would not need to process corrected and linked data before starting their analyses.[722]

b. Market Analysis and Research

The Commission preliminarily believes that the CAT NMS Plan would benefit the quality of market analysis and research that is produced to increase regulatory knowledge and support policy decisions and would lead to a more thorough understanding of current markets and emerging issues. These expected benefits would stem from improvements in accessibility, accuracy, and completeness of regulatory data. Improvements in regulatory market analysis and research aimed at informing regulatory decisions would benefit investors and market participants by improving regulators' understanding of the intricacies of dynamic modern markets and how different market participants behave in response to policies and information. These more nuanced and more thorough insights would help regulators to identify the need for regulation that specifically tailors policies and interventions to the diverse landscape of market participants and conditions that characterize current financial markets, as well as assist them in conducting retrospective analysis of their rules and pilots.

A lack of direct access to necessary data, along with inaccuracies in the data that are available, currently limits the types of analyses that regulators can conduct. These data limitations constrain the information available to regulators when they are considering the potential effects of regulatory decisions. For example, in January 2010 the Commission published a concept release on equity market structure that discusses how the markets have rapidly evolved from trading by floor-based specialists to trading by high-speed computers.[723] The concept release poses a number of questions about the role and impact of high-frequency trading Start Printed Page 30696strategies and the movement of trading volume from the public national securities exchanges to over-the-counter trading venues such as dark pools. Over the past five years there has been considerable discussion about these topics by regulators, market participants, the media, and the general public. Nevertheless, limitations in the completeness and accessibility of the available data have limited the research that followed the concept release.

The Commission preliminarily believes that the CAT NMS Plan improves this situation, benefiting market analysis and research in support of SRO and Commission rulemaking. It would provide direct access to data that currently requires an often lengthy and labor-intensive effort to request, compile, and process. Additionally, the expected improvements in accuracy and completeness could benefit efforts to analyze the activities of particular categories of market participants, understand order routing behavior, identify short selling and short covering trades, issuer repurchases, and related topics. The requirement to store the data in a uniform format in the Central Repository is particularly important, as linking and normalizing data from disparate sources in different formats is a major component of completing many types of analyses and currently requires a significant amount of time. The Plan would provide direct access to data that regulators could use to more directly study issues such as high frequency trading, maker-taker pricing structures, short selling, issuer repurchases, and ETF trading.

The CAT NMS Plan could improve market analysis and research concerning HFT by providing regulators with direct access to more uniform and comprehensive data that identifies HFT activity more precisely compared to existing academic research that regulators currently utilize. Existing academic research on high frequency trading cannot precisely identify high frequency traders or their trading activity and more comprehensive regulatory analysis on high frequency trading currently relies on fragmented data that is cumbersome to collect and process.[724] For both academics and regulators, studying high frequency traders is currently difficult because these traders typically trade across many exchanges, and often off-exchange as well. NASDAQ distributes a trade and quote dataset to researchers for the purposes of performing academic studies on high frequency trading. This dataset identifies the trading and quoting activity of a group of high frequency traders identified by NASDAQ, but only includes activity from the NASDAQ exchange. Other exchanges and market centers currently do not provide such data to academics or the public.[725] As a result, studies of high frequency trading have been limited in their ability to examine thoroughly such strategies and their impact on the market. Because data on high-frequency trading tends to be fragmented across many data sources, it is difficult even for regulators to thoroughly analyze their aggregate activity level, study how their activity on one exchange affects their activity on another, and study the effect of particular high frequency strategies on market quality.[726]

The Plan also would provide information on how various broker-dealers route their customer orders and would allow regulators to study whether access fees and rebates drive routing decisions as much as execution quality considerations. This could inform debates about effects of conflicts of interest created by such maker-taker pricing. Studies of maker-taker pricing require information on routing decisions and how routing affects execution quality. Current academic studies of maker-taker pricing rely on data that provide imprecise information that cannot directly link routing and execution quality, and current similar research carried out by some regulators is often hindered by the significant amount of time it takes to obtain the relevant data from all market centers. However, the Plan would provide regulators with direct access to a data source that would link order lifecycle events together in a way that would allow regulators to more thoroughly analyze how and where broker-dealers route various order types. This could assist regulators in analyzing the importance of fees to the routing decisions and the ultimate impact on investors of any conflicts of interest in broker-dealer routing decisions. Such analysis could inform debates regarding whether maker/taker pricing structures are harmful to market structure.

Similarly, the Plan would provide regulators with data to better understand the nature of short selling. Existing studies of the effects of short selling lack the ability to associate short selling activity with customer-level data, and also lack the ability to distinguish buying activity that covers short positions from buying activity that establishes new long positions. The Plan would allow regulators to examine, for example, how long particular types of traders hold a short position and what types of traders short around corporate events.

The Plan, in requiring information about a Customer, would also facilitate studies of how certain entities other than natural persons trade and the market impact of their trading. For example, existing information on repurchases is aggregated at the monthly and quarterly level while the CAT Data on issuer repurchases would be much more granular. CAT Data would provide information that could determine the size and timing of issuer repurchases, for example. In addition, CAT Data would provide information that could help identify open market repurchases whereas existing data does not distinguish the type of repurchase. As such, the Plan would facilitate research that addresses the timing of issuer repurchases around corporate events or stock option grants and exercises, the extent to which issuers use the safe harbor in Rule 10b-18, and how aggressively issuers trade in the market. In addition, CAT Data on the trading of leveraged ETFs, particularly the end of day rebalancing, could shed light on how the leveraged ETFs relate to market volatility. In addition, Customer information should facilitate analyses of the secondary market trading of ETF Authorized Participants in their ETFs.[727] This could help regulators better understand the arbitrage process between an ETF and its underlying securities and the limitations of that arbitrage.

The Commission preliminarily believes that CAT Data would also better inform SROs and the Commission in rulemakings and assist them in conducting retrospective analysis of their rules and pilots. In particular, SROs would be able to use order data that is currently not available to examine whether rule changes are in the interest of investors. For example, direct access to consolidated audit trail data that identifies trader types could help an SRO examine whether a new rule improved market quality across the entire market and whether it benefitted retail and institutional investors specifically. Further, CAT Data would allow SROs to examine whether a rule Start Printed Page 30697change on another exchange was in the interest of investors and whether to propose a similar rule on their own exchange.

c. Surveillance and Investigations

The Commission preliminarily believes that the enhanced surveillance and investigations made possible by the implementation of the CAT NMS Plan could allow regulators to more efficiently identify and investigate violative behavior in the markets and could also lead to market participants that currently engage in violative behavior reducing or ceasing such behavior, to the extent that such behavior is not already deterred by current systems. The current markets are characterized by surveillance systems that identify violators so that regulators may address these violations. Given that violative behavior is identifiable in current markets, and potential violators know that there is a positive probability that they would be caught by surveillance should they commit a violation, fewer potential violators commit violations than would do so in markets that had no surveillance. Potential violators' expected probability of being caught influences their likelihood of committing a violation.[728] It then follows that any system change that increases the likelihood of violative behavior detection would increase potential violators' expected probability of being caught and thus reduce the likelihood that potential violators would commit a violation.

Specifically, if market participants believe that the existence of CAT, and the improved regulatory activities that result from improvements in data and data processes, increase the likelihood of regulators detecting violative behavior, they could reduce or eliminate the violative activity in which they engage to avoid incurring the costs associated with detection, such as fines, legal expenses, and loss of reputation. Such a reduction in violative behavior would benefit investor protection and the market as investors would no longer bear the costs of the violative behavior that would otherwise exist in the current system. Many of the improvements that would result from CAT could also allow regulators to identify violative activity, such as market manipulation, more quickly and reliably, which could improve market efficiency by deterring market manipulation and identifying and addressing it more quickly and more often when it occurs.[729]

(1) SRO Surveillance

The Commission preliminarily believes that the CAT NMS Plan would result in improvements in SROs' surveillance capabilities and that many of the benefits to SRO surveillance stem from improvements to data completeness. These benefits encompass a number of improvements to surveillance, including: detection of insider trading; surveillance of principal orders; cross-market and cross-product surveillance, and other market surveillance activities.

Rule 613(f) requires SROs to implement surveillances reasonably designed to make use of the CAT Data.[730] Further, data improvements resulting from the Plan would improve regulators' ability to perform comprehensive and efficient surveillance. As a result, the market surveillances required by Rule 613(f) could identify a broader and more nuanced set of market participant behaviors. As such, the CAT would also provide the opportunity for development of more effective and efficient surveillance system. It is also possible that the CAT Data and tools would enable further innovations in market surveillance beyond those currently contemplated. These innovations could be in response to new developments in the market over the next few years or to the new capabilities for regulators.

CAT Data would include additional fields not currently available in data used for surveillance.[731] The inclusion of Customer-IDs in the CAT would significantly improve surveillance capabilities, including surveillance designed to detect market manipulation and insider trading. Because currently available data do not include customer identifiers, SROs performing insider trading and manipulation surveillance could be unable to identify some suspicious trading [732] and must undertake multiple steps to request additional information after identifying suspect trades. The ability to link uniquely identified customers with suspicious trading behavior would provide regulators with better opportunity to identify the distribution of suspicious trading instances by a customer as well as improving regulators' ability to utilize customer-based risk assessment. This enhanced ability to link customers with behaviors would enable detection of market abuses that are perpetrated by customers trading or quoting through multiple accounts or on multiple trading venues.

Furthermore, having direct access to data could assist an SRO in its surveillance activities by potentially facilitating quicker responses to suspicious trading activity. Additionally, the inclusion of the principal orders of members would enable regulators to better identify rule violations by broker-dealers that have not previously had to provide audit trail data on their unexecuted principal orders. The evolution of the market has increased the importance of surveillance on principal orders. Many of these principal orders originate from algorithmic or high frequency trading firms who have been the recent subject of regulatory interest.[733] Further, some rules and regulations provide for differential treatment of the principal orders of broker-dealer market makers. Yet, some current data sources used for SRO surveillance exclude unexecuted principal orders,[734] limiting the Start Printed Page 30698surveillance for issues such as wash sales. As a result, many surveillance patterns are unable to detect certain rule violations involving principal orders.

The Plan would also improve regulators' efficiency in conducting cross-market and cross-product surveillance. The Plan would particularly enhance regulators' ability to perform cross-market surveillance, across equity and options markets, by enabling any regulator to surveil the trading activity of market participants in both equity and options markets and across multiple trading venues without data requests. Regulators would also have access to substantially more information about market participants' activity,[735] and the requirement that the data be consolidated in a single database would assist regulators in detecting activity that may appear permissible without evaluating data from multiple venues.[736] Likewise, it would assist regulators in detecting activity that may not appear violative without evaluating data from multiple venues.

Increasing market complexity and fragmentation has increased the importance of cross-market surveillance. The Commission noted in its Regulation of NMS Stock Alternative Trading Systems proposing release that, “[i]n the seventeen years since the Commission adopted Regulation ATS, the equity markets have evolved significantly, resulting in an increased number of trading centers and a reduced concentration of trading activity in NMS stocks.” [737] However, because market data are fragmented across many data sources and because audit trail data lacks consistent customer identifiers, regulators cannot run cross-market surveillance tracking particular customers.[738] Furthermore, routine cross-product surveillance is generally not possible with current data. The potential enhancements in market surveillance enabled by the CAT NMS Plan are likely to result in more capable and efficient surveillance which could reduce violative behavior and protect investors from harm.

(2) Examinations

The Commission preliminarily believes that availability of the CAT would also improve examinations and that these improvements would benefit investor protection, and the market in general, by resulting in more effective supervision of market participants. The Commission conducted 493 broker-dealer examinations in 2014 and 484 in 2015, 70 exams of the national securities exchanges and FINRA in 2014 and 21 in 2015. In addition, the Commission conducted 1,237 investment adviser and investment company examinations in 2014 and 1,358 in 2015. Virtually all investment adviser examinations and a significant proportion of the Commission's other examinations involve analysis of trading and order data. Currently some data that would be useful to conduct risk-based selection for examinations, such as trade blotters, are not available in data sources available for pre-exam analysis.[739] Further, data available during exams often require regulatory Staff to link multiple data sources to analyze customer trading. For example, some customer identities are present in EBS data, but time stamps are not. To evaluate the execution price a customer received, it is necessary to know the time of the trade to compare the price of the customer's execution with the prevailing market prices at that time. This requires linking the EBS data with another data source that contains trades with time stamps (such as the trade blotter). These linking processes can be labor-intensive and require the use of algorithms that may not link with 100% accuracy. Finally, for investment adviser examinations, examiners sometimes use non-trading data such as Form PF, Form 13-F, Form ADV, and clearing broker reports as a proxy for trading data when selecting investment advisers for examinations. The CAT would improve examinations in the following specific ways.

First, the Commission preliminarily believes that the expected improvements in the data qualities discussed above would enhance the ability of regulators to select market participants for focused examinations on the basis of risk. The direct access to consolidated data in a single location would dramatically improve regulators' ability to efficiently conduct analyses in an attempt to select broker-dealers and investment advisers for more intensive examinations based on identified risk. Having CAT Data stored in the Central Repository in a linked format would allow examiners to access much more data directly through a query and without performing the linking process on an ad-hoc basis than is currently available before an exam. The ability to use Customer Account Information in the process for selecting investment advisers for exams, for example, could allow those selection models to incorporate trading data directly instead of imperfect proxies for trading data. This could lead to improved outcomes for risk-based examinations, such as more regulatory resources invested in examining market participants who are at an elevated risk of violating federal securities laws, rules, and regulations, and SRO rules, and a reduction in the proportion of examinations that might not have been necessary if a more complete view of the market participant's activity had been available. Compliant market participants could benefit from a reduction in the relative frequency of burdensome examinations. Improvements in the breadth and effectiveness of risk-based examination would help protect investors by increasing the likelihood of identifying market participants who are violating laws, rules and regulations.

Second, the Commission preliminarily believes that with the CAT, regulators would be able to examine market participants more effectively. In particular, regulators would be able to conduct certain types of exams more efficiently because of the inclusion of Customer-IDs in CAT. In addition, direct access to CAT Data would provide examination Staff with the ability to conduct more analysis prior to opening an examination because data would be available without the need to make a formal data request. In addition, the clock synchronization provisions of the Plan could aid regulators in sequencing some events more accurately, thereby facilitating more informed exams.[740] In sum, the Plan would allow the data collection portion of examinations to be completed more quickly with fewer formal data requests. More efficient examinations would help regulators better protect Start Printed Page 30699investors from the violative behavior of some market participants and could reduce examination costs for market participants who would have otherwise faced examinations that are less focused and more lengthy.

(3) Enforcement Investigations

Many Commission enforcement actions involve trade and order data.[741] The Commission preliminarily believes that the improvements in data qualities that would result from the CAT NMS Plan [742] would significantly improve the efficiency and efficacy of enforcement investigations, including insider trading and manipulation investigations. The Commission believes that more efficient and effective enforcement activity is beneficial to both investors and market participants because it deters violative behavior that degrades market quality and that imposes costs on investors and market participants.

Dramatic expected benefits come from improvements to the accuracy, accessibility, timeliness, and completeness of the data. As noted above,[743] compiling the data to support an investigation often requires a tremendous amount of time and resources and requires multiple requests to multiple data sources and significant data processing efforts, for both SROs and the Commission. While individual SROs have direct access to the data from their own markets, their investigations often require access to the data of other SROs because firms trade across multiple venues. Some enforcement investigations, including those on insider trading and manipulation, require narrow market reconstructions that allow investigators to view actions and reactions across the market. Currently, the data fragmentation and the time it takes to receive requested data, makes these market reconstructions cumbersome and time-consuming. Further, new data fields related to Customer information and the Allocation Reports should improve the completeness of the data available to investigators.

Under the CAT NMS Plan, the data for an enforcement investigation initiated at least five days after an event would be processed, linked, and available for analysis within 24 hours of a query, instead of the current timeline of weeks or longer. Further, some of the data processing steps that are now performed on an ad-hoc basis during an investigation would be systematically performed by the Plan Processor in advance.[744] The availability of uncorrected data by noon on T+1 could improve the Commission's chances of preventing asset transfers from manipulation schemes because regulators could use the uncorrected data to detect the manipulation and identify the suspected manipulators.[745] These improvements could shorten the times required to collect the data for investigations.

Other expected benefits stem from improvements in the accuracy and completeness of the data. The inclusion and expected improvement in the accuracy of customer identifying data could allow regulators to review the activity of specific market participants more efficiently; currently, identifying the activity of a single market participant across the market is cumbersome and prone to error.[746] This information would be particularly helpful in identifying insider trading, manipulation and other potentially violative activity that depends on the identity of market participants. Customer information could also be helpful to regulators in more efficiently identifying investors who qualify for disgorgement proceeds and in estimating such disgorgement proceeds.

The Commission also believes that increasing the proportion of market events that could be sequenced under the CAT NMS Plan could yield some benefits in enforcement investigations, improving investigations of insider trading, manipulation, and compliance with Rule 201 of Regulation SHO and Rule 611 of Regulation NMS.[747] The expected improvements in completeness could also benefit investigations by allowing regulators to observe in a consolidated data source relevant data that are not available in some or all current data sources, including time stamps, principal orders, non-member activity, allocations, and the identification of whether a trade increases or decreases an existing position. This data could be important, for example, when investigating allegations of market manipulation or cherry-picking in subaccount allocations. Having disaggregated information about allocations and issuer repurchases also could facilitate new ways to investigate allegations of unfair allocations and new ways to investigate and monitor manipulation through issuer repurchases.

(4) Tips and Complaints

The Commission preliminarily believes that the CAT NMS Plan would improve the process for evaluating tips and complaints by allowing regulators to more effectively triage tips and complaints, which could focus resources on behavior that is most likely to be violative.[748] The SROs and Commission evaluate thousands of tips and complaints regarding trading behavior each year. In fiscal years 2014 and 2015, the Commission received around 15,000 entries in its TCR system, approximately one third of which related to manipulation, insider trading, market events, or other trading and pricing issues. As stated in the Baseline Section, the analysis of tips and complaints follows three general stages. The Commission expects that the Plan would improve the second and third stages, the third in ways described in the Examinations and Enforcement Investigations Sections.[749] The second stage in the evaluations of tips, which help regulators determine the credibility of a tip or complaint, is limited by a lack of direct access to the most useful data; specifically, customer information and cross-market data.[750] The availability of the CAT Data would drastically increase the detail of data available to regulators for the purposes of tip assessment. This access would assist the SROs and Commission in identifying which tips and complaints are credible, would help ensure that regulators open investigations or examinations on credible tips and complaints, and would limit regulatory resources spent on unreliable tips and complaints. Likewise, regulated market participants would likely benefit from a reduction in unnecessary burdens placed upon them by inquiries that are related to tips that the CAT Data could show are not credible.

3. Other Provisions of the CAT NMS Plan

The Commission notes that there are a number of provisions of the CAT NMS Plan that provide for features that are uniquely applicable to a consolidated audit trail or otherwise lack a direct analog in existing data systems. Start Printed Page 30700Therefore, rather than analyze the benefits of these provisions as compared to existing NMS Plans or data systems, the Commission has analyzed these provisions in comparison to a CAT NMS Plan without these features. The Commission preliminarily believes that these provisions of the CAT NMS Plan increase the likelihood that the potential benefits of the CAT NMS Plan described above would be realized.

a. Future Upgrades

Several provisions in the Plan seek to ensure that the CAT Data would continually be updated to keep pace with technological and regulatory developments. For example, the Plan would require that the Chief Compliance Officer review the completeness of CAT Data periodically,[751] that the Central Repository be scalable to efficiently adjust for new requirements and changes in regulations,[752] and that Participants provide the SEC with a document outlining how the Participants could incorporate information on select additional products and related Reportable Events.[753] The Commission preliminarily believes that these provisions would allow the CAT to be updated if and when the applicable technologies and regulations change.

Specifically, Rule 613(b)(6)(ii) and (iii) require that the Plan include a provision requiring a report at least every two years that details potential improvements in the CAT, such as incorporating new technology to improve system performance. Such a report would also include the costs of any such improvements. The CAT NMS Plan delegates responsibility for the report to the Chief Compliance Officer.

Section 6.1(d)(iv) of the Plan, with respect to new functionality, requires the Plan Processor to “design and implement appropriate policies and procedures governing the determination to develop new functionality for the CAT including, among other requirements, a mechanism by which changes can be suggested by Advisory Committee members, Participants, or the SEC,” as well as providing for the escalation of reviews of proposed technological changes and upgrades to the Operating Committee, and for addressing the handling of surveillance.

With respect to upgrades to maintain existing functionality, the Plan Processor could evaluate and implement potential system changes and upgrades to maintain and improve the normal day-to-day operating function of the CAT System; material system changes and upgrades are to be performed by the Plan Processor in consultation with the Operating Committee.[754] The Plan Processor may on its own discretion initiate changes or upgrades to ensure compliance with applicable legal requirements.[755] Regular reports on the operations and maintenance of the CAT System are to be provided by the Plan Processor to the Operating Committee, including reports on system improvements contemplated in Appendix D, Upgrade Process and Development of New Functionality.[756]

Section 11 of Appendix D sets out the obligations of the Plan Processor with respect to the requirements discussed above (e.g., to develop a process to add functionality to CAT, including reviewing suggestions submitted by the SEC). The Plan Processor must create a defined process for developing impact assessments, including implementation timelines for proposed changes, and a mechanism by which functional changes that the Plan Processor wishes to undertake could be reviewed and approved by the Operating Committee. The Plan Processor “shall not unreasonably withhold, condition, or delay implementation of any changes or modifications reasonably requested by the Operating Committee.” [757] There must be a similar process to govern the changes to the Central Repository discussed above—i.e., business-as-usual changes that could be performed by the Plan Processor with only a summary report to the Operating Committee, versus infrastructure changes that would require approval by the Operating Committee.[758] Finally, a process for user testing of new changes must be developed by the Plan Processor.[759]

Appendix C notes that the Plan Processor must ensure that the Central Repository's technical infrastructure is scalable (to increase capacity to handle increased reporting volumes); adaptable (to support future technology developments so that new requirements could be incorporated); and current (to ensure, through maintenance and upgrades, that technology is kept current, supported, and operational).[760]

These provisions are designed to ensure that the Participants consider enhancing and expanding CAT Data shortly after initial implementation of the CAT NMS Plan and that the Participants consider improvements regularly continuing forward. The Commission preliminarily expects that, in addition to these provisions, the CCO review would further facilitate proactive expansion of CAT to account for a regulatory change or change in how the market operates, or should there be a need for regulators to have access to new order events or new information about particular order events. To the extent that the Participants determine that an expansion is necessary and it is approved by the Commission, the Plan's scalability provision promotes the efficiency of the implementation of that expansion such that it could be completed at lower cost and/or in a timely manner.

Taken together, these provisions could also provide a means for the Commission to ensure that improvements to CAT functionality are considered so as to preserve its existing benefits, or that expansion of CAT functionality is undertaken in order to create new benefits. These methods are not certain, but the Commission does retain the ability to modify the Plan, if such a step becomes necessary to ensure that future upgrades are undertaken as necessary.[761] Moreover, the focus on scalability, adaptability, and timely maintenance and upgrades promotes a system that could be readily adapted over time, versus one that is difficult or costly to expand or modify. The Commission preliminarily believes that the provisions outlined above would allow the CAT Data to be continually updated to keep pace with technological and regulatory developments.

b. Promotion of Accuracy

The Commission notes that the Plan contains specific provisions designed to generally promote the accuracy of information contained in the Central Repository. The CCO is required, among other responsibilities, to perform reviews related to the accuracy of information submitted to the Central Repository and report to the Operating Committee with regard thereto,[762] and there is a special Compliance Subcommittee of the Operating Start Printed Page 30701Committee, which is established to aid the CCO with regard to, among other things, issues involving the accuracy of information.[763] The Plan also contains certain other provisions intended to monitor and address Error Rates.[764]

The Operating Committee is responsible for adopting policies and procedures regarding the accuracy of CAT Data, which the Plan Processor shall be responsible to implement.[765] The Plan Processor in turn must provide regular reports regarding accuracy issues to the Operating Committee, specifically Error Rates relating to the Central Repository, including (to the extent the Operating Committee deems necessary or advisable) Error Rates by day, changes in the Error Rates over time, and Compliance Thresholds by CAT Reporter, by Reportable Event, by age before resolution, by symbol, by symbol type, and by event time. The Plan documents an initial Error Rate tolerance of 5%, but requires that, at least annually, the Plan Processor review the Error Rates and make recommendations to the Operating Committee for proposed changes to the maximum Error Rate; and requires that the Operating Committee set and periodically review the maximum Error Rate.[766]

Under the Plan, the Plan Processor would also provide details to each CAT Reporter on the number of rejected records and the reasons for their rejection on a daily basis. And on a monthly basis, the Plan Processor would publish report cards that would allow CAT Reporters to compare their Error Rates with those of industry peers; this is similar to the process used by FINRA for OATS reporting. The Plan Processor would notify each CAT Reporter that exceeds the maximum Error Rate, and provide the specific reporting requirements that they did not fully meet. Participants and the SEC could request reports on Error Rates from the Plan Processor. The Plan Processor would also provide statistics on each CAT Reporter's Compliance Thresholds—the CAT Reporter's specific Error Rate, which could serve as the basis for a review or investigation into the CAT Reporter's performance by the Participants or the SEC for failure to comply with CAT reporting obligations—to the Participants or the SEC.

In addition to providing CAT Reporters data on their Error Rates, the Plan states that the Participants believe that in order to meet Error Rate targets, industry would require certain resources, including a stand-alone testing environment, and time to test their reporting systems and infrastructure. The Technical Specifications must also be well-written and effectively communicated to CAT Reporters with sufficient time to allow proper systems updates.[767] Finally, the Plan notes that reporters may be subject to penalties or fines for excessive Error Rates, to be defined by the Operating Committee.[768]

The Commission preliminarily believes that these provisions to document Error Rates and promote data accuracy are reasonably designed to improve the overall accuracy of CAT Data relative to the exclusion of such provisions; however, the Commission also preliminarily believes that certain procedures outlined in the Plan may not incentivize all firms to further improve the quality of the data they report. The Commission recognizes that providing feedback to individual CAT Reporters on their individual Error Rates and information that compares Error Rates to industry peers could motivate firms with high Error Rates to reduce those rates, to avoid accruing penalties and fines associated with being a high Error Rate CAT Reporter.[769] However, it is not clear what incentive, if any, would be provided to firms with median Error Rates to improve their regulatory data reporting processes; this could collectively limit industry's incentives to reduce Error Rates. Furthermore, the Commission notes that, under the Plan, proposals to adjust the maximum allowable Error Rate are to originate from the Plan Processor. The Commission preliminarily believes that the Participants (as data users) have incentives to pursue lower Error Rates as data errors could complicate their efforts to perform their regulatory responsibilities. However, the Commission preliminarily believes that the Plan Processor would also have to allocate resources to error resolution, so could be incentivized to pursue Error Rate reduction.

The Commission notes that the Plan includes provisions requiring the establishment of a symbology database that will also foster accuracy. The Plan requires the Central Repository to create and maintain a symbol history and mapping table, as well as provide a tool to regulators and CAT Reporters showing the security's complete symbol history, along with a start of day and end of day list of reportable securities for use by CAT Reporters, in .csv format, by 6:00 a.m. on each trading day.[770] This resource will assist regulators in accurately identifying all trading activity of securities across venues, many of which do not natively follow listing exchange symbology.

Regarding the Plan's business clock synchronization requirements, the Plan also discusses the expectation that Participants and their Industry Members will each be required to maintain a five-year running log, or comparable procedure, documenting the time of each clock synchronization performed and the result of such synchronization. These practices would reveal the parameters of any discrepancies, between Business Clocks and NIST, that exceed 50 milliseconds.[771] As mentioned above, there is currently uncertainty regarding clock offsets, clock drift, and synchronization practices of Participants and Industry Members and the required practice of systematically maintaining five-year logs regarding these details should improve regulatory and industry understanding of these dynamics, which should provide a clearer foundation for evaluating the standards set in the Plan upon which future improvements could be considered.

c. Promotion of Timeliness

In addition to the specific timeliness benefits discussed in the foregoing Sections, the Plan contains some provisions that promote performance of the Central Repository, and that therefore could indirectly improve the timeliness of regulator access to or use of the CAT Data. These are found in capacity requirements for the Plan Processor, disaster recovery requirements to ensure the availability of the system, and in supervision and reporting of timeliness issues.

Specifically, first, the Plan Processor must measure and monitor Latency within the Central Repository's systems, must establish acceptable levels of Latency with the approval of the Operating Committee, and must establish policies and procedures to ensure that data feed delays are communicated to CAT Reporters, the Commission, and Participants' regulatory Staff.[772] The Plan further provides that “[a]ny delays will be Start Printed Page 30702posted for public consumption, so that CAT Reporters may choose to adjust the submission of their data appropriately. . . .” [773] The Plan Processor must also provide relevant parties, as well as to the public, with approximate timelines provided for system restoration.[774] Moreover, the Central Repository is required to be designed to meet certain capacity standards, including handling above-peak submission volumes, storing data for a sliding 6 year window (more than 29 petabytes of raw, uncompressed data), and the ability to add capacity quickly and seamlessly if needed.[775]

Second, the Plan Processor must develop disaster recovery and business continuity plans to support the continuation of CAT business operations.[776] Business continuity planning must include a secondary site for critical staff, capable of recovery and restoration of services within 48 hours, with the goal of next day recovery.[777] The secondary site must have the same level of availability, capacity, throughput and security (physical and logical) as the primary site—i.e., it must be fully redundant.[778] Thus, in the event of a widespread disruption, delays to CAT processing and regulator access to CAT of greater than a day or two could likely be prevented.

Third, the Chief Compliance Officer of the Plan Processor must conduct regular monitoring of the CAT System for compliance, including with respect to the reporting and linkage requirements in Appendix D.[779] Moreover, the Plan Processor must provide the Operating Committee with regular reports on the CAT System's operations and maintenance, including its capacity and performance, as set out in Appendix D.[780]

Finally, one caveat on the foregoing discussion is that system performance would in part be dependent on a series of SLAs to be negotiated between the Plan Participants and the eventual Plan Processor, including with respect to linkage and order event processing performance, query performance and response times, and system availability.[781] As these have not yet actually been negotiated, some of the key timeliness benefits anticipated to accrue from implementation of the Plan could be subject to the successful negotiation on an acceptable basis of the terms of the SLAs.

d. Operation and Administration of the CAT NMS Plan

There are certain elements of the CAT NMS Plan's governance that, like the other factors discussed in this subsection, are uniquely applicable to a consolidated audit trail, and that the Commission therefore analyzed in comparison to a CAT NMS Plan without these features (or that implements those features in a different way). The Commission preliminarily believes that these provisions of the CAT NMS Plan increase the likelihood that the potential benefits of the CAT NMS Plan described above would be realized.

(1) Introduction

In adopting Rule 613, the Commission established certain requirements for the governance of the CAT NMS Plan, stating that those “requirements are important to the efficient operation and practical evolution of the [CAT], and are responsive to many commenters' concerns about governance structure, cost allocations, and the inclusion of SRO members as part of the planning process.” [782] The Commission did not, in Rule 613, establish detailed parameters for the governance of the CAT NMS Plan, but rather allowed the SROs to develop specific governance provisions, subject to a small number of requirements. Recognizing that Rule 613 left Plan Participants with wide latitude to determine how to structure the Plan's governance, the Commission in the Adopting Release also stated that “[a]fter the SROs submit the NMS plan, the Commission and the public will have more detailed information in evaluating the NMS plan.” [783]

The Plan's governance is described in greater detail in Section III.A.3. above, but generally consists of a Delaware LLC, which is to “create, implement, and maintain the CAT and the Central Repository,” and which is to be managed by the Operating Committee, consisting of one voting representative of each SRO Participant. The Operating Committee acts by majority or Supermajority Vote, depending on the issue. An Advisory Committee that includes a mix of broker-dealers, as required by Rule 613, is to “advise the [Operating Committee] on the implementation, operation and administration of the central repository.” [784] These features are analyzed in greater detail below.

The Commission preliminarily believes that the governance provisions identified in the Adopting Release continue to be important to the efficient operation and practical evolution of the Plan, particularly given that there are a range of possible outcomes with respect to both the costs and benefits of the Plan that depend on future decisions. The way in which the identified governance provisions have been incorporated into the Plan, as discussed in greater detail below, could help facilitate better decision-making by the relevant parties. This, in turn, means that the Commission could have greater confidence that the benefits resulting from implementation of the Plan would be achieved in an efficient manner and that costs resulting from inefficiencies would be avoided.

The Commission notes that it can monitor whether the benefits of CAT are being achieved. For example, certain Operating Committee actions are subject to Commission approval.[785] The Commission also retains the ability to modify the Plan as it may deem necessary or appropriate.[786] To enable the Commission to exercise its oversight authority in an informed manner and to make its views known, representatives of the Commission are permitted to attend meetings of the Operating Committee, although the Commission representatives may be excluded from Operating Committee Executive Sessions.[787] Moreover, the Commission is entitled to receive information regarding the performance of the Central Repository, including a Regular Written Assessment of the operation of the Central Repository at least every two years, or more frequently in connection with any review of the Plan Processor's performance. The assessment would cover the performance metrics specified in Rule 613(b)(6)(i).[788] The Commission Start Printed Page 30703is also entitled to receive any reports prepared in connection with the Operating Committee's annual performance review of the Plan Processor.[789]

(2) Key Factors Relating to Governance

Two factors identified by the Commission in the Adopting Release as “important to the efficient operation and practical evolution of the [CAT]” are voting within the Operating Committee and the role and composition of the Advisory Committee. Voting thresholds that result in Operating Committee decision-making that balances the ability of minority members to have alternative views considered with the need to move forward when appropriate to implement needed policies can promote achievement of the Plan's benefits in an efficient manner. Similarly, an Advisory Committee that is balanced in terms of membership size and composition, as well as in its ability to present views to the Operating Committee, can result in better performance of its informational role, and thus more efficient achievement of the benefits of the Plan.

A. Voting

In adopting Rule 613, the Commission found that one Commenter's concerns about unanimous voting in the context of the CAT NMS Plan “have merit.” Specifically, the Commission stated that “an alternate approach” to voting involving “the possibility of a governance requirement other than unanimity, or even super-majority approval, for all but the most important decisions” should be considered, as it “may be appropriate to avoid a situation where a significant majority of plan sponsors—or even all but one plan sponsor—supports an initiative but, due to a unanimous voting requirement, action cannot be undertaken.” [790] The Commission “urge[d] the SROs to take into account the need for efficient and fair operation of the NMS Plan governing the consolidated audit trail” in setting voting thresholds.[791]

The Plan sets forth two voting thresholds for most matters to be decided by the Operating Committee.[792] Majority approval of the Operating Committee is sufficient to approve routine matters, arising in the ordinary course of business, while non-routine matters, outside the ordinary course of business, would require a supermajority (two-thirds) vote of the Operating Committee to be approved.[793]

The Plan generally eschews a unanimous voting threshold, except for the three clearly-defined circumstances noted above. Unanimity as a voting threshold may confer greater influence on holders of minority views, but it may also give a small faction the ability to extract private benefits inconsistent with Plan objectives by acting as holdouts.[794] In a hold-out dynamic, one member may be able to block action that all the other members agree should move forward. While this dynamic may occasionally be used productively, to produce better decision-making through fostering discussion and compromise, it also may give one member the power to stand in the way of needed change.

The ability of a single member to prevent action with regard to the Plan could be particularly troublesome if that member were motivated by a conflict of interest.[795] The Plan requires recusal of the member representing such a Participant from voting in the Operating Committee on matters that raise a conflict of interest, defined as any matter subject to a vote that interferes, or is reasonably likely to interfere, with the member's objective consideration of the matter, or that is, or would reasonably likely be, inconsistent with the regulatory purpose and objectives of CAT.[796] Recusal of a member could also be compelled by a supermajority of the Operating Committee.[797] If conflicts of interest were the cause of all unproductive holding-out (i.e., holding out that does not contribute to better decision-making), then a robust conflict of interest provision could mitigate some of the negative features of unanimous voting.

Majority voting as a voting threshold strikes a different balance between the rights of members than does unanimous voting. Majority voting avoids the hold-out problem of unanimity, but can result in decisions that bear less concern for the interests of the minority members. Whether it does so or not may depend at least in part on voting dynamics on the Operating Committee. Under the Plan, each member has only one vote within the Operating Committee, and so an individual member—and represented Participant—could not unilaterally advance a position that benefits only the Participant under the Plan. That said, however, some individual members could exercise more influence than others over the outcome of the voting process. Participant SROs that are affiliated with one another could vote as a bloc by designating a single individual to represent them on the Committee.[798] Individuals who represent more than one SRO would then in principle Start Printed Page 30704exercise more influence than other individuals on the Operating Committee.[799] The Chair of the Operating Committee also could exercise more influence than other members on the Committee, even though the Chair only has one vote, through influence over Committee processes.[800] Ultimately, however, no individual would have unilateral control over vote outcomes, even at a majority voting threshold. Whether the threshold results in adequate attention to the rights of minority members could therefore depend on the ease with which a majority coalition can be formed, whether those coalitions are fluid or static, and whether in practice decision-making is collegial or contentious. While majority voting could pose a risk of disregard for minority positions, that risk here is mitigated in that majority voting only applies to the less important matters that could arise in the operations of the Plan.

The Plan's supermajority voting requirement for more important matters represents an intermediate ground between majority and unanimous voting, requiring more than a bare majority of members to agree to support a position, which therefore enhances the ability of members of the minority to seek to have their views reflected in the ultimate decision, while limiting the ability of minority members to act as holdouts. That said, the supermajority voting requirement may also have some disadvantages: To the extent that rules and practices already in place require correction, a supermajority voting requirement may make it more difficult to assemble the votes necessary to make needed changes. For example, supermajority voting could have the indirect effect of locking in the preferred business practices of the inaugural members of the Operating Committee. For decisions later in the Plan implementation, this lock-in effect of supermajority voting could make it more difficult for the Operating Committee to take non-routine actions, such as replacing the Plan Processor after the initial selection decision.[801]

B. Advisory Committee

Rule 613(b)(7) requires that the Plan designate an Advisory Committee.[802] Specifically, Rule 613(b)(7) calls for the formation of an Advisory Committee to advise the plan sponsors on the implementation, operation, and administration of the Central Repository, as detailed above in Section III.A.3 of this Notice.[803] Under Rule 613(b)(7)(i), the Advisory Committee must include representatives of member firms of the plan sponsors (broker-dealers), acting in their own capacities as individuals on the Committee. Under Rule 613(b)(7)(ii), plan sponsors must give members of the Committee access to information and permit them to express their views and attend meetings of the Operating Committee. Also under Rule 613(b)(7)(ii), the Operating Committee has the right to exclude members of the Advisory Committee from its deliberations by meeting in Executive Session by a Majority Vote of its members.

The Adopting Release states that the “provision requiring the creation of an Advisory Committee, composed at least in part by representatives of the plan sponsors,” was “[i]n response to the comment requesting that the broker-dealer industry receive a `seat at the table' regarding governance of the NMS plan.” [804] In addition, the Commission “encourage[d] the plan sponsors to, in the NMS plan, provide for an Advisory Committee whose composition includes SRO members from a cross-section of the industry, including representatives of small-, medium-and large-sized broker-dealers.” Rule 613 does not give broker-dealers a vote on the Operating Committee itself. In the Adopting Release, the Commission stated that the structure of Rule 613 as adopted “appropriately balances the need to provide a mechanism for industry input into the operation of the central repository, against the regulatory imperative that the operations and decisions regarding the [CAT] be made by SROs who have a statutory obligation to regulate the securities markets, rather than by members of the SROs, who have no corresponding statutory obligation to oversee the securities markets.”

In implementing these provisions of Rule 613, the Plan requires the Advisory Committee to have diverse membership.[805] Section 4.13 of the Plan requires an Advisory Committee with a minimum of six broker-dealers of diverse types and six representatives of entities that are not broker-dealers.[806] That is, five of twelve seats on the initial Advisory Committee would be filled by representatives, respectively, of the client of a registered broker or dealer, two types of institutional investors, and two others with academic and regulatory expertise. Terms of Advisory Committee members would not exceed three years, and memberships would be staggered so that a third of the Committee would be replaced each year.[807]

The Commission believes that the Plan's provisions regarding the Advisory Committee advance the goals of the Advisory Committee articulated in the Adopting Release: To allow the Operating Committee to receive the benefit of members' expertise with respect to “expected or unexpected operational or technical issues” and “help assure the Commission and market participants that any requirements imposed on SRO members will be accomplished in a manner that takes into account the burdens on SRO members.”

Given the primary purpose of the Advisory Committee as a forum to communicate important information to the Operating Committee, which the Operating Committee could then use to ensure its decisions are fully-informed, the Plan's choices in implementing Rule 613 do reflect some trade-offs. One factor in the ability of the Advisory Committee to collect relevant information for the Operating Committee is the quality and depth of the expertise, and the diversity of viewpoints, of the Advisory Start Printed Page 30705Committee's membership.[808] A larger and more diverse Advisory Committee may have better access to expertise and diversity of viewpoints from among members for use in advising the Operating Committee.[809] But, members of a larger and more diverse Advisory Committee would face potentially greater difficulties in working among themselves to identify and convey the information that is available to them. The Plan balances these considerations by providing the Advisory Committee with sufficient membership to be able to generate useful information and advice for the Operating Committee, while being at a sufficiently low size and diversity level to permit the members to be able to work together without undue obstacles that could otherwise limit the Advisory Committee's effectiveness in conveying their views.[810]

Another factor in the ability of the Advisory Committee to advise the Operating Committee is whether the Advisory Committee, having assembled a diverse set of views, could effectively communicate those views to the Operating Committee. Two Plan provisions, relating to the staggering of member terms and the limits on participation of the Advisory Committee under Rule 613(b)(7)(ii), bear on this communication.[811]

First, the Plan provides for Advisory Committee members to serve for staggered three-year terms in order to provide “improved continuity given the complexity of CAT processing.” [812] Staggering of terms would prevent the entire Advisory Committee or large numbers of its members from turning over in any given year, which could enhance the cohesion of the Advisory Committee, and thereby its effectiveness in communicating member viewpoints to the Operating Committee. Second, the Plan gives the Advisory Committee varying roles with respect to the different actions to be taken by the Operating Committee. While the Advisory Committee members may attend meetings and submit views to the Operating Committee on matters prior to a decision by the Operating Committee, the Operating Committee may exclude Advisory Committee members from Executive Sessions.[813]

An additional factor that bears on the ability of the Advisory Committee to advise the Operating Committee is a feedback loop: Whether the Advisory Committee could receive sufficiently detailed information on the operations of the Plan so that the Advisory Committee members can, in turn, provide decision-useful information to the Operating Committee. Here, the Plan specifies that the Advisory Committee has the right to receive from the Operating Committee information necessary and appropriate to the fulfillment of its functions, but that the scope and content of the information is to be determined by the Operating Committee.[814] Thus, the Commission notes that the Operating Committee could act to limit the effectiveness of the Advisory Committee—for example, if the Operating Committee were to fail to provide Advisory Committee members with notice of the items to be deliberated and voted upon by the Operating Committee with sufficient time and particularity for the Advisory Committee to be able to adequately fulfill its function, or fail to provide other pathways for Advisory Committee members to become aware of topics of interest or concern to the Operating Committee.

One other determinant bears on the effectiveness of the Advisory Committee in ensuring that the Operating Committee makes decisions in light of diverse information—whether the Operating Committee actually takes into account the facts and views of the Advisory Committee before making a decision. Although the Plan expressly provides for Advisory Committee input, it does not contain a mechanism—such as requiring the Operating Committee to respond to the Advisory Committee's views, formally or informally, in advance of or following a decision by the Operating Committee—to ensure that the Operating Committee considers the views of the Advisory Committee as a part of the Operating Committee's decision-making process.

(3) Conclusion

The Commission preliminarily believes that the governance provisions discussed above, which the Commission identified as being “important to the efficient operation and practical evolution of the [CAT], and . . . responsive to many commenters' concerns about governance structure, cost allocations, and the inclusion of SRO members as part of the planning process,” could help promote better decision-making by the relevant parties. These provisions thus could mitigate concerns about potential uncertainty in the economic effects of the Plan by giving the Commission greater confidence that its expected benefits would be achieved in an efficient manner and that costs resulting from inefficiencies would be avoided.

4. Request for Comment on the Benefits

The Commission requests comment on all aspects of the discussion of the potential benefits of the CAT NMS Plan. In particular, the Commission seeks responses to the following questions:

257. Do Commenters agree with the Commission's assessment of the potential benefits of the CAT NMS Plan? Why or why not?

258. To what extent do the uncertainties related to future decisions about Plan implementation impact the Start Printed Page 30706assessment of potential benefits of the Plan? Please explain.

259. Do Commenters agree that the inclusion of the data fields in one centralized data source in the CAT NMS Plan described above would result in more complete data than what is currently available to regulators? Which elements of the Plan would deliver improvements to completeness? Are there any elements of the Plan that would degrade the completeness of regulatory data? Please explain.

260. The Commission reviewed gap analyses that examine whether the CAT Data would contain all important data elements in current data sources [815] and concluded that certain information is not included (e.g., OATS data fields that allow off-exchange transactions to be matched to their corresponding trade reports at trade reporting facilities and certain EBS elements). Please identify any such data elements that are missing under the Plan.

261. The Commission also seeks comment on the significance of the gaps identified in the analyses. If there are particular fields that are identified in the gap analyses that should not be incorporated into CAT, please identify them and explain.

262. The Commission expects that, pursuant to the requirements of the Plan,[816] any missing elements that are material to regulators would be incorporated into CAT Data prior to the retirement of the systems that currently provide those data elements to regulators. Do you agree? Why or why not? Do you agree that CAT Data would include the audit trail data elements that currently exist in audit trail data sources? Why or why not?

263. Do Commenters agree that the CAT NMS Plan would improve the accuracy of the data available to regulators? Which elements of the Plan would deliver these improvements? Are there any elements of the Plan that would degrade the accuracy of regulatory data relative to today? Are there any elements of the Plan that would prevent or limit improvements in the accuracy of regulatory data? Are the provisions of the Plan related to accuracy appropriate and reasonable in light of the goal of improving data quality? Please explain.

264. Do Commenters believe that procedural protections in the Plan, such as the requirement that the Technical Specifications be “consistent with [considerations and minimum standards discussed in] Appendices C and D,” the requirement to provide the initial Technical Specifications and any Material Amendments thereto to the Operating Committee for approval by Supermajority Vote,[817] and the requirement that all non-Material Amendments and all published interpretations be provided to the Operating Committee in writing at least ten days before publication,[818] can mitigate uncertainty regarding future decisions and help promote accuracy? Please explain.

265. Do Commenters believe that the Error Rate, validations, and error resolution processes described in the CAT NMS Plan would provide improvements in accuracy? Are these processes appropriate and reasonable in light of the goal of improving data quality? Please explain.

266. The Plan specifies an error correction process after initial reports are received and indicates that practically all errors identifiable by the validations used in the error correction process would be corrected by 8:00 a.m. Eastern Time on day T+5, stating that errors are expected to be “de minimis” after the error correction period.[819] Do Commenters believe that this is a reasonable conclusion? Please explain.

267. Do Commenters believe that the provisions in the CAT NMS Plan related to event sequencing would provide improvements in accuracy? To what degree does the 50 millisecond clock synchronization requirement enable or prevent regulators' ability to sequence events that occur in different Execution Venues? Are the provisions of the Plan related to event sequencing appropriate and reasonable in light of the goal of improving data quality? Please explain.

268. The Plan does not specify the approach that would be used to sequence events when time stamps are identical. Do Commenters believe that there is a way for the Plan Processor to sequence events with identical time stamps? How would this process, or the lack of a process, affect the quality of the CAT Data?

269. The Plan states that “the Participants plan to require that the Plan Processor develop a way to accurately track the sequence of order events [of a particular order] without relying entirely on time stamps.” [820] Do Commenters believe it is feasible to properly sequence the events of a simple or complex order without relying entirely on time stamps? Please explain. If such a procedure could be developed, how accurate would it be?

270. The Plan further states, “For unrelated events, e.g., multiple unrelated orders from different broker-dealers, there would be no way to definitively sequence order events within the allowable clock drift as defined in Article 6.8.” [821] Do Commenters believe it would be feasible for the Plan Processor to develop a way to accurately sequence such unrelated orders given the time stamp and clock synchronization requirements of the Plan? Please explain. If such a procedure could be developed, how accurate would it be?

271. Do Commenters agree with the Commission's data analysis of the clock synchronization improvements from the Plan? If not, how could the Commission improve the data analysis? Do Commenters have their own data analysis that informs on the expected improvements from the Plan? If so, please provide. Do Commenters agree that the improvements to the percentage of sequenceable order events by Plan standards are modest and the requirements of the Plan may not be sufficient to completely sequence the majority of market events relative to all other events?

272. Do Commenters agree with the Plan's assessment of the industry standard for clock synchronization? Does this reflect the standards for all CAT Reporters, including exchanges, ATSs, and other broker-dealers? If not, what would be a more appropriate way to define the industry standard for clock synchronization?

273. Do Commenters believe that the provisions in the CAT NMS Plan related to linking data would result in improvements to the accuracy of the data available to regulators? Would the process for linking orders across market participants and SROs improve accuracy compared to existing data? Would the Plan Processor be able to Start Printed Page 30707develop expertise in linking data more efficiently than the regulatory staff members from each entity could on their own? Please explain.

274. Would the Error Rates associated with the linking process represent improvements to data accuracy? Would Approach 1 to data conversion result in a lower Error Rate than Approach 2? Would the Approach affect the Plan Processor's ability to build a complete and accurate database of linked data? Are the Error Rates associated with the linking process appropriate and reasonable in light of the goal of improving data quality? Please explain.

275. Do Commenters believe that the inclusion of unique Customer and Reporter Identifiers would increase the accuracy of information in data regulators use and provide benefits to a broad range of regulatory activities that involve audit trail data? Please explain.

276. Do Commenters agree that the CAT Data would provide less aggregated allocation information and less aggregated issuer repurchase information? Why or why not? Would these changes significantly affect regulatory activities?

277. Do Commenters agree that the CAT NMS Plan would improve the accessibility of the data available to regulators? Which elements of the Plan would deliver these improvements? Are there any elements of the Plan that would degrade the accessibility of regulatory data relative to today? Are there any elements of the Plan that would prevent or limit improvements in the accessibility of regulatory data?

278. Do Commenters believe that the minimum requirements for direct access ensure that the Plan would improve access to current data, including the process of requesting data? Would the direct access facilitated by the Plan provide sufficient capacity and functionality? Would direct access reduce the number of ad hoc data requests?

279. Do Commenters agree that the CAT NMS Plan would improve the timeliness of the data available to regulators? Which elements of the Plan would deliver these improvements? Are there any elements of the Plan that would degrade the timeliness of regulatory data relative to today? Are there any elements of the Plan that would prevent or limit improvements in the timeliness of regulatory data?

280. Do Commenters believe that the CAT NMS Plan will facilitate the ability of each national securities exchange and national securities association to comply with the requirement in Rule 613(f) that they develop and implement a surveillance system, or enhance existing surveillance systems, reasonably designed to make use of the consolidated information contained in the consolidated audit trail? If not, why not?

281. Do Commenters agree that the CAT NMS Plan will facilitate the ability of regulators to conduct risk-based examinations? Why or why not? How significantly would the Plan improve risk-based examinations? Please explain.

282. Do Commenters agree that the CAT NMS Plan will improve the efficiency of regulators' enforcement activities? Why or why not? Which specific regulatory activities would be most improved by the CAT NMS Plan? Please explain.

283. Do Commenters agree that the CAT NMS Plan will improve the ability for regulators to determine the credibility of tips and complaints? Please explain.

284. Overall, do Commenters agree that the surveillance, examination, and enforcement activities of regulators would improve with the CAT NMS Plan? Please explain. Would these improvements be significant enough to deter violative behavior? Please explain. What would be the economic effect of this deterrence?

285. Would such improvements reduce the percentage of activities that generate false positives (i.e., detection of behaviors that are not violative) and/or reduce the percentage of activities that are false negatives (i.e., not detecting behaviors that are violative)? Please explain. What would be the economic effect of any changes in false positives or false negatives?

286. Do Commenters agree with the Commission's assessment of the economic effects of the improvements to surveillance, examinations, and enforcement from the CAT NMS Plan? Please explain.

287. Do Commenters agree that the CAT NMS Plan would improve the efficiency and effectiveness of regulators conducting analysis and reconstruction of market events? Please explain. Do Commenters agree with the Commission's assessment of the benefits to investors and the market of more efficient and effective analysis and reconstruction of market events? Please explain.

288. Do Commenters agree that the CAT NMS Plan would facilitate market analysis and research that would improve regulators' understanding of securities markets? Please explain. Do Commenters agree with the Commission's assessment of the benefits to investors and the markets from regulators having a better understanding of the markets? Please explain.

289. Do Commenters believe that there are other features of the CAT NMS Plan uniquely applicable to a consolidated audit trail that increase the likelihood that the potential benefits of the CAT NMS Plan would be realized? Please identify these features and explain.

290. Do Commenters agree that provisions of the Plan related to future upgrades, promoting accuracy, and promoting timeliness increase the likelihood that the potential benefits of the CAT NMS Plan would be realized? Do current regulatory data sources have provisions similar to ones the Commission analyzed? If so, please describe such provisions.

291. Do Commenters believe that provisions of the Plan provide incentives to reduce reporting errors for a CAT Reporter that has an Error Rate that does not exceed the thresholds that would trigger fines under the Plan or possible enforcement actions by regulators? If so, what are the incentives? Could the Plan provide different incentives to reduce reporting errors? Please explain.

292. Under the Plan, proposals to adjust the maximum allowable Error Rate are to originate from the Plan Processor. Do Commenters agree with this approach? Please explain. Should others, such as the Operating Committee, or Advisory Committee be able to originate changes to the Error Rate? Please explain.

293. Do Commenters agree that communication of data feed delays for public consumption is beneficial to the operation and effectiveness of the CAT? If so, in what ways? What are the benefits and costs of such public disclosure?

294. Do Commenters agree that the governance provisions identified in the Rule 613 Adopting Release continue to be important to the efficient operation and practical evolution of the Plan, and therefore to the achievement of the Plan's benefits? Are there other aspects of the Plan's governance that might enhance (or detract from) the Plan's ability to achieve its intended benefits? Are there other governance aspects that the Plan does not address that might enhance, if included (or detract from, if not remedied) the Plan's ability to achieve its intended benefits? Please identify these other features and explain how they enhance (or detract from) the Plan's ability to achieve its intended benefits.

295. The Commission's analysis of the provisions of the Plan relating to voting assumes that these provisions will Start Printed Page 30708promote the benefits sought to be achieved by the Plan because, by assigning different voting thresholds to different actions, the Plan seeks to address potential conflict of interest and holdout problems, balancing dissenters' rights with the need to move forward with needed changes. Is this a complete and accurate list of the factors that could bear on whether the voting provisions of the Plan will promote the benefits sought to be achieved by the Plan, and did the Commission correctly weigh these factors in preliminarily concluding that the Plan's voting provisions could help promote better Plan decision-making and, thus, improve achievement of the Plan's goals? If the Commission should have considered other factors or weighed the identified factors differently, please explain how, and what the costs and benefits of an alternative approach would be.

296. The Plan provides that “[a]ll votes by the Selection Committee shall be confidential and non-public.” [822] What are the effects of confidential voting as a means of limiting conflicts of interest and promoting accountability? Would expanding confidentiality in voting to other situations help or hinder the effectiveness of the Operating Committee and its Subcommittees in achieving the regulatory objectives of the Plan? Please explain and provide supporting examples and evidence, if available.

297. Do Commenters believe that the size, membership, and tenure of Advisory Committee members is appropriately tailored to encourage the effective accumulation and communication of Advisory Committee member views to the Operating Committee, thereby improving Plan decision-making? If not, why not? Are there other factors that could bear on whether the provisions of the Plan relating to the Advisory Committee will promote better decision-making? If so, what other factors?

298. Are there any alternatives for Advisory Committee involvement that could increase the effectiveness of its involvement? What benefits would these achieve in terms of improving the Operating Committee's efficiency? Would these alternatives increase or decrease costs?

299. What obstacles to information-sharing between individual members of the Operating Committee and the Commission, if any, are likely to limit the Plan's effectiveness in meeting its regulatory objectives? Is there any information, such as regarding individual SRO clock synchronization standards, that members would need to share within the Operating Committee to achieve plan regulatory objectives but may be uncomfortable sharing with one another (or more comfortable sharing with the Commission than with one another)? Please be specific and explain what, if any, changes to the plan could mitigate obstacles from inadequate information-sharing.

300. Are there any other factors relating to the operation and administration of the Plan that the Commission should consider as part of determining whether to approve the Plan? If so, what are those factors and how could they influence the costs and benefits of the Plan? Does the Plan currently address these factors? If not, how could the Plan address these factors and what would be the relative costs and benefits of any changes to the Plan?

F. Costs

As noted above, at the time of the Adopting Release the Commission deferred its economic analysis of the creation, implementation, and maintenance of CAT until after submission of the CAT NMS Plan.[823] Accordingly, the Commission deferred its detailed analysis of costs associated with CAT. In light of the SROs having submitted the CAT NMS Plan, this Section sets forth the Commission's preliminary analysis of the expected costs for creating, implementing, and maintaining the CAT, as well as the associated reporting of data.

As discussed in detail below, the Commission has preliminarily estimated current costs related to regulatory data reporting, anticipated costs associated with building and maintaining the Central Repository, and the anticipated costs to report CAT Data to the Central Repository. These preliminary estimates are calculated from information provided in the CAT NMS Plan as well as supplemental information. Currently, the 20 Participants spend $154.1 million annually on reporting regulatory data and performing surveillance.[824] The approximately 1,800 broker-dealers anticipated to have CAT reporting responsibilities currently spend $1.6 billion annually on regulatory data reporting.[825] If the Plan is approved, the Commission preliminarily estimates that the cost of the Plan would be approximately $2.4 billion in initial aggregate implementation costs and $1.7 billion in ongoing annual costs.[826] Furthermore, the Plan anticipates that market participants would have duplicative audit trail data reporting responsibilities for a period of up to a maximum of 2.5 years, preceding the retirement of potentially duplicative regulatory data reporting schemes.[827] Duplicative audit trail data reporting could cost broker-dealers $1.6 billion per year or more and could cost the Participants up to $6.9 million per year. The Commission preliminarily believes that the primary component of costs for CAT's estimated annual costs would be the estimated aggregate broker-dealer data reporting costs of $1.5 billion per year, whereas the Central Repository build costs are preliminarily estimated by the Participants to be no more than $92 million, with annual operating costs of no more than $135 million.

As explained in detail below, the Commission believes, however, that there is significant uncertainty surrounding the actual implementation costs of CAT and the actual ongoing broker-dealer data reporting costs if the Plan were approved. Methodology and data limitations used to develop these preliminary cost estimates could result in imprecise estimates that may significantly differ from actual costs. The Commission has used its best judgment, however, in obtaining and assessing available information and data to provide the analysis and estimates included in this Notice. The Commission is also requesting comment on the methodology and any additional data Commenters believe should be considered.

Furthermore, the Commission notes that because some CAT design decisions (such as setting forth detailed Technical Specifications) have been deferred until the selection of the Plan Processor, the associated cost uncertainties could cause the actual costs to vary significantly from the estimates set forth in this analysis.

The Commission notes that the cost estimates set forth in this analysis are updated from the cost estimates provided in the Proposing Release. In the Proposing Release, the Commission estimated $4.3 billion in initial implementation costs and $2.3 billion in ongoing annual costs.[828] The Start Printed Page 30709Commission has now updated its analysis and estimates $2.4 billion in initial implementation costs and $1.7 billion in ongoing annual costs. The Commission believes that several factors drive differences in cost estimates from the Proposing Release to the current cost estimates in this analysis. First, the scope of CAT as contemplated in the Proposing Release is different than the scope of CAT Data as would be implemented by the CAT NMS Plan.[829] For example, the Commission notes that, unlike CAT Data envisioned in the Proposing Release, the proposed Plan includes OTC Equity Securities, which if included in CAT would facilitate the possible retirement of OATS as an audit trail data reporting system at a relatively earlier date. While the Commission's cost estimates do not explicitly incorporate cost savings from systems retirement, cost estimates provided in the Plan and based on surveys of broker-dealers, participants and service providers may reflect some of these savings. For example, because respondents anticipate incorporating resources that would be devoted to OTC equity data reporting to CAT reporting, cost estimates may be lower than they would be if OTC equity data were excluded from CAT but were still reported to OATS on an ongoing basis. Thus, after all CAT Reporters start reporting to the Central Repository and the resolution of any data gaps between OATS and CAT, FINRA would not need to maintain OATS solely to fulfill its regulatory responsibilities relating to OTC Equity Securities.[830] Additionally, the Commission's updated cost estimates are based on data submitted with the Plan, which was unavailable when the Commission first estimated the costs of CAT in the Proposing Release,[831] as well as certain additional information obtained by Commission Staff.[832] Furthermore, the Plan also integrates exemptive relief extended to the Participants regarding (1) Options Market Maker quotes; (2) Customer-IDs; (3) CAT-Reporter-IDs; (4) linking of executions to specific subaccount allocations on Allocation Reports; and (5) time stamp granularity for Manual Order Events. The Commission preliminarily believes that this exemptive relief contributes to reductions in cost of the Plan relative to those estimated in the Proposing Release. The Commission has incorporated this additional information into its current cost analysis.[833]

1. Analysis of Expected Costs

The Plan provides estimates of the expected costs associated with the Plan, including costs to build and operate the Central Repository and costs to Participants and CAT Reporters to implement and maintain CAT reporting.[834] As explained below, the Commission has thoroughly reviewed the cost estimates contained in the Plan and other relevant information to develop the Commission's preliminary estimate of expected costs of the Plan. The Commission preliminarily believes that in some cases the estimates provided in the Plan are reliable estimates of the potential costs of certain aspects of the Plan. The Commission preliminarily believes, however, that in other cases the data and methodology underlying certain Plan estimates are unreliable and, in such cases, the Commission has preliminarily evaluated and provided separate estimates based on alternative data or a different methodology.[835]

In this Section, the Commission provides preliminary estimates of the individual elements that constitute the estimated expected total cost associated with implementing and maintaining the CAT, including the costs of operating and building the Central Repository, the costs to Participants, the costs to broker-dealers, and other costs considered in the CAT NMS Plan.

a. Costs of Building and Operating the Central Repository

The Plan's estimates of the costs to build the Central Repository are based on Bids that vary in a range as high as $92 million. The Plan's estimates of annual operating costs are based on Bids that vary in a range up to $135 million. The eventual magnitude of Central Repository costs is dependent on the Participants' selection of the Plan Processor, and may ultimately differ from estimates discussed in the Plan if Bids are revised as the bidding process progresses. The Plan discusses these costs both as (i) one-time and ongoing costs as well as (ii) a five-year total cost, to help evaluate economic trade-offs between initial build costs and operating costs. The Plan anticipates that Participants and their members would bear the costs of building and operating the Central Repository. The Commission preliminarily believes that these estimates are reliable because they are the result of a competitive bidding process, although the Commission recognizes that the Bids are not legally binding on bidders. In particular, the Commission preliminarily believes that a Bidder would not likely decline a Start Printed Page 30710contract to be Plan Processor that was based on the Bid it submitted because that Bidder might lose future business due to reputational consequences of its actions. Furthermore, Bidders have invested considerable time and effort in evaluating the RFP and preparing their Bids and thus if a Bidder were unwilling to serve as Plan Processor according to the terms outlined in its Bid, the time and effort expended to prepare the Bid would be wasted resources. As explained further below, however, the Commission believes that these cost estimates associated with building and operating the Central Repository are subject to a number of uncertainties.

To estimate the one-time total cost to build the Central Repository, the Plan uses the Bids of the final six Shortlisted Bidders.[836] The Bidders' implementation cost estimates range from $30 million to $91.6 million, with a mean of $53 million and a median of $46.1 million.[837] The Plan also estimates the ongoing costs of the Central Repository. The Bids of the final six Shortlisted Bidders estimate annual costs to operate and maintain the Central Repository range from $27 million to $135 million, with a mean of $51.1 million and a median of $42.2 million.[838] The Plan's summary statistics show that annual costs are not expected to be constant year-over-year for all Bidders, but the Plan does not provide further details on how the costs are expected to evolve over time or how many of the Bids have time-varying annual costs.[839] Although the Commission preliminarily believes that costs provided by Bidders are reliable, the Commission recognizes that these ongoing costs could increase over time due to inflation or changes in market structure such as a significant increase in message traffic. It is also possible these costs could decrease due to improvements in technology, reductions in message traffic, and innovation by the Plan Processor.

The Plan also provides information based on the Bids on the total five-year operating costs for the Central Repository because the annual costs to operate and maintain the Central Repository are not independent of the build cost. In particular, it is plausible that the Bidders with the lowest build costs trade off lower build costs for higher recurring annual costs. To account for this possibility, the Plan presents the range of total five-year costs across Bidders using the Bids of the final six Shortlisted Bidders.[840] The methodology takes the sum of the annual recurring costs over the first five years (discounted to the present with a discount rate of 2%) and adds the upfront investment. Across the six Shortlisted Bidders, the total five-year costs to build and maintain CAT range from $159.8 million to $538.7 million.[841] This information is less granular than other Bidder cost information provided in the Plan, and no mean or median is provided or can be calculated with the information provided.

The Plan provides that costs associated with building and operating the Central Repository would be borne by both Participants and their members.[842] In particular, the Plan provides for fixed-tiered fees based on ranges of activity levels to be levied on Execution Venues (i.e., the Participants (including a national securities association with trade reporting facilities, and ATSs)) based upon the Execution Venue's market share of share volumes, with options and equity venue fees determined by separate schedules set by CAT's Operating Committee.[843] Furthermore, the Plan provides for fixed-tiered fees for Industry Members (broker-dealers) based on the message traffic generated by the member, including message traffic associated with an ATS operated by the member.[844] The Plan also provides for the establishment of other fees for activities such as late, inaccurate, or corrected data submission by CAT Reporters.[845] The Plan does not present information on the potential magnitude of these fees, but the Commission preliminarily believes they are likely to be a minor expense for CAT reporters, who should be able to avoid these fees by fulfilling their normal reporting responsibilities under the Plan. The Plan does not provide information on the relative allocation of these fees between transaction-based fees, message traffic-based fees, and other fees.[846]

The Commission believes that a range of factors would drive the ultimate costs associated with building and operating the Central Repository and who would bear those costs. The Plan explains that the major cost drivers identified by Bidders are (1) transactional volume, (2) technical environments, (3) likely future growth in transactional volumes, (4) data archival requirements, and (5) user support/help desk resource requirements.[847] The Plan does not present information on how sensitive the cost estimates are to each of these factors. Further, how Bidders propose to satisfy the RFP requirements could materially affect the ultimate cost to the industry to operate the Central Repository and who would bear those costs. For instance, some Bids may provide more extensive user support from the Plan Processor than others, effectively shifting user support costs from CAT Reporters to the Plan Processor, where such support might be more efficiently provided. However, the Plan does not provide information about how the Bidders propose to address each of the RFP requirements; thus, uncertainties exist around who would bear certain costs and how such costs could change if each Bidder's proposal related to these factors change.

The Commission is mindful that the cost estimates associated with building and operating the Central Repository are subject to a number of additional uncertainties. First, the Participants have not yet selected a Plan Processor, and the Shortlisted Bidders have submitted a wide range of cost estimates for building and operating the Central Start Printed Page 30711Repository. Second, the Bids submitted by the Shortlisted Bidders are not yet final. Participants could allow Bidders to revise their Bids before the final selection of the Plan Processor. Third, neither the Bidders nor the Commission can anticipate the evolution of technology and market activity with complete prescience. Available technologies could improve such that the Central Repository would be built and operated at a lower cost than is currently anticipated. On the other hand, if anticipated market activity levels are materially underestimated, the Central Repository's capacity could need to increase sooner, increasing the actual costs to operate the Central Repository than currently anticipated in the Bids. The Commission notes that costs to build and operate the Central Repository are relatively small compared to total industry costs if the CAT NMS Plan were approved; consequently, the Commission preliminarily believes that these uncertainties are unlikely to materially affect the final cost of the Plan to industry, if it is approved.

b. Costs to Participants

The Commission preliminarily believes that the Plan's estimates for Participants to report CAT Data are reliable because all of the SROs provided cost estimates, and most SROs have experience collecting audit trail data as well as expertise in the both the requirements of CAT as well as their current business practices. The Plan provides estimated costs for the Participants to report CAT Data.[848] These estimates are based on Participant responses to the Costs to Participants Study (“Participants Study”) [849] that the Participants collected to estimate SRO CAT-related costs for hardware and software, full-time employee staffing (“FTE costs”), and third-party providers.[850] Respondents to the Participants Study also estimated the costs associated with retiring current regulatory data reporting systems that would be rendered redundant by CAT.[851]

The Plan estimates costs for the Participants as an aggregate across all Participants (the six single-license Participants and the five Affiliated Participant Groups).[852] The implementation cost estimate for Participants is $17.9 million, including $770,000 in legal and consulting costs and $10.3 million in full-time employee costs for operational, technical/development, and compliance-type functions.[853] Annual ongoing costs are estimated to be $14.7 million, including $720,000 in legal and consulting costs and $7.3 million in full-time employee costs.[854] Other than legal and consulting costs and full-time employee costs, the Plan does not specify the other categories of implementation and ongoing costs, but based on discussion with the Participants, the Commission preliminarily believes that much of the remaining costs would be attributed to IT infrastructure, including hardware and software costs.

The Plan also provides estimates of the costs Participants currently face in reporting regulatory data.[855] The Plan anticipates that some, but not all, of these reporting systems would be retired after implementation of the Plan.[856] The Plan reports that aggregate annual costs for current regulatory data reporting systems are $6.9 million across all Participants.[857]

In addition to data reporting costs, Participants face costs associated with developing and implementing a surveillance system reasonably designed to make use of the information contained in CAT Data as required by Rule 613(f).[858] The Plan provides estimates of the costs to Participants to implement surveillance programs using data stored in the Central Repository. Participants would incur expenses, including full-time employee (“FTE”), legal, consulting and other costs to adapt their surveillance systems to utilize data in the Central Repository. The Plan provides an estimate of $23.2 million to implement surveillance systems for CAT, and ongoing annual costs of $87.7 million.[859] The Plan does not provide information on why Participants' data reporting costs would substantially increase if the Plan were approved, nor does it provide information on why surveillance costs would decrease.

The Commission preliminarily believes the data reporting cost estimates are reasonable because the Commission expects that Participants would be required to implement new technology infrastructure to report data to the Central Repository and support specialized personnel to maintain this infrastructure and respond to inquiries from the Plan Processor and users of CAT Data. The Commission likewise preliminarily believes that the surveillance cost estimates are reasonable, even though the annual estimate of $87.7 million is lower than the $147.2 million Participants, in aggregate, currently spend on surveillance programs annually [860] because Participants could realize efficiencies from having data standardized and centrally hosted that could allow them to handle fewer ad hoc data requests. In addition, the Plan could allow Participants to automate some surveillance processes that may currently be labor intensive or processed on legacy systems, which Start Printed Page 30712could reduce costs because the primary driver of these costs is FTE costs.

Table 6 summarizes the Participants' estimated costs, both current and CAT-related, that are set forth in the Plan. Currently, Participants spend approximately $154 million per year on data reporting and surveillance activities. The Participants estimate that they would incur $41 million in CAT implementation costs, and $102 million annually in ongoing costs to report CAT Data and perform surveillance as mandated under Rule 613.

Table 6—Participants' Cost Estimates

CurrentCAT implementationCAT ongoing
Data Reporting$6,900,000$17,900,000$14,700,000
Surveillance147,200,00023,200,00087,700,000
Total154,100,00041,100,000102,400,000

c. Costs to Broker-Dealers

(1) Estimates in the Plan

The Plan estimates total costs for those broker-dealers expected to report to CAT. In particular, the Plan relies on the Costs to CAT Reporters Study (“Reporters Study”), which gathered from broker-dealers the same categories of cost estimates used in the Participants Study—i.e., the hardware and software costs, full-time employee staffing costs, and third-party provider costs that CAT Reporters would incur if the Commission approves the Plan.[861] The Reporters Study surveyed broker-dealers to respond to two distinct approaches for reporting CAT Data to the Central Repository.[862] Approach 1 assumes CAT Reporters would submit CAT Data using their choice of industry protocols. Approach 2 assumes CAT Reporters would submit data using a pre-specified format. The Participants distributed the Reporters Study to 4,406 broker-dealers and received 422 responses, of which the Participants excluded 180 deemed materially incomplete and 75 determined to be erroneous.[863] The Plan's cost estimate calculations are based on the remaining 167 responses. In aggregating the cost estimates across all broker-dealers expected to report CAT Data to the Central Repository, the Plan assumed that the characteristics of survey respondents (firm size and OATS reporting status) were representative of the approximately 1,800 broker-dealers expected to have CAT reporting obligations.[864]

Based on the Reporters Study survey data, the Plan estimates implementation costs of less than $740 million for small firms [865] and approximately $2.6 billion for large firms, for a total of $3.34 billion in implementation costs for broker-dealers.[866] For annual ongoing costs, the Plan estimates costs of $739 million for small firms and $2.3 billion for large firms, for a total of $3.04 billion in annual ongoing costs for broker-dealers.[867] For both large and small broker-dealers, the Plan suggests that the primary cost driver for projected CAT reporting costs for broker-dealers is costs associated with full-time employees.[868] For the reasons discussed below, the Commission preliminarily believes that the broker-dealer cost estimates in the Plan are in part unreliable, based on limitations with the Plan's underlying data in estimating costs. As discussed below, the Commission preliminarily believes that cost estimates in the Plan for large broker-dealers may be reliable, and the Commission has incorporated large firm data from the Plan into the Commission's estimates outlined below.[869]

The Commission preliminarily believes, however, that the cost estimates for small broker-dealers provided in the Plan, which are based upon responses set forth in the Reporters Study, do not prove reliable estimates of smaller CAT Reporter costs for a number of reasons. First, some respondents classified as small in the Reporters Study appear to have responded numerically with incorrect units, with such responses resulting in annual estimated cost figures that would be 1,000 times too large. Second, maximum responses in certain categories of costs suggest that some large broker-dealers may have misclassified themselves as small broker-dealers.[870] Third, methods used to remove outliers are likely to have introduced significant biases. Finally, the response rate to the Reporters Study survey was low and is likely to have oversampled small broker-dealers who currently have no OATS reporting obligations.[871]

First, the Commission preliminarily believes that the respondents to the Reporters Study survey are likely to have used different units in their responses and that the survey precision is materially affected because Start Printed Page 30713inconsistent use of reporting units across respondents introduces an upward bias to the Reporters Study's findings. The survey collected cost estimates in $1,000 increments; however, there is evidence that some respondents did not provide estimates in $1,000 increments as requested. Rather, survey results in the Plan reveal, for example, that one small firm reported current annual hardware/software costs for current regulatory data reporting to be $14,000,000 per year.[872] Because small firms responding to the survey by definition have no more than $500,000 in total capital, an annual $14,000,000 estimate for hardware/software costs for current data reporting seems unreasonable.[873] Furthermore, a small survey respondent cited $3,500,000 in hardware/software retirement of systems costs, which seems unreasonable for a broker-dealer with less than $500,000 in total capital. These are only a few examples, but they raise the question of how many other respondents recorded incorrect units in their responses, particularly if screening methodologies have difficulty detecting such incorrect units. In light of these unreasonable results, the Commission preliminarily believes that the Plan's cost estimates for small broker-dealers reporting data to CAT has an upward bias because some firms did not correctly respond to the survey in $1,000 increments.

Because of errant responses of this type, the Plan recommends using medians instead of averages; [874] however, for nearly all estimated cost categories in the Reporters Study, the median response was zero, which the Commission believes underestimates the costs that CAT Reporters are likely to face in most categories of costs. Consequently, the Commission is unable to adjust for these biases.

In addition, the Commission preliminarily believes that the small firm cost survey information in the Reporters Study is unlikely to be representative of the small broker-dealers that would have CAT reporting responsibilities in part because the Commission also believes preliminarily that some survey respondents misclassified their firm's size, which renders the Plan's separate presentation of results for large and small broker-dealers imprecise. In particular, the Commission believes that at least one large firm misclassified itself as a small firm. The CAT NMS Plan Table 6 reveals that one firm designated as a small firm responded to the Reporters Study survey with it having 68 full-time employees dedicated to performing regulatory data reporting activities for a yearly cost of $27,300,000.[875] The Commission believes, however, that a firm with 68 full-time employees reporting regulatory data could not be small (again, as defined by the survey to include firms with less than $500,000 in total capital) because such a firm would lack the working capital to support that level of employee expense.[876] The presence of large-firms with significantly higher costs in the small-firm sample significantly biases the small-firm cost estimates upward.

Moreover, the Commission preliminarily believes that the methodologies implemented to remove outliers in the Reporters Study introduce cost estimate biases.[877] Based on discussions with the Participants, the Commission understands that to identify and remove outliers, the Participants first determined if each survey item's maximum response was a potential outlier because it was more than twice the value of the next highest response; the Participants then individually reviewed potential outliers and omitted those deemed errant. While the Commission recognizes that this methodology may mitigate the precision bias discussed above by removing a single response that is 1,000 times too high, it may not remove such outliers when two or more firms errantly report values 1,000 times too high, in which case an upward bias to the cost estimates would remain. Furthermore, if one firm genuinely incurs expenses that are more than twice those of the next highest respondent, such survey response might be removed under this methodology, even though such a response may accurately identify expenses expected by the respondent, which in turn introduces a downward bias to the cost estimates. For example, only 21 large OATS reporting firms are represented in the Reporters Study survey responses. If most of these 21 firms perform the majority of their regulatory data reporting functions in house, but one firm outsources all of its regulatory data reporting, that single firm could have outsourcing costs far higher than its peers. Under the Plan's cost estimate methodology, this outsourcing response in the Reporters Study might be removed as an outlier, unless another large, OATS reporting firm responded to the Reporters Study with at least half of the outsourcing costs. The Commission considered whether to request that the Participants provide updated cost estimates under a methodology that did not remove Reporters Study outlier responses, but the Commission preliminarily believes that this approach would exacerbate the precision problem discussed above and possibly increase the number of errant responses that are 1,000 times too high to the cost estimate data set.

Finally, the Commission believes that the Reporters Study response rate is not adequate to be representative of the population of broker-dealers that would report to CAT. The survey was delivered to 4,025 broker-dealers. After removing erroneous and materially incomplete responses, only 167 responses remained of the 4,025 broker-dealers who were sent the survey. To be representative of the broker-dealers that would report to CAT, a final response rate of 4.15% seems low considering the diversity of these broker-dealers. The majority of broker-dealers are small and smaller broker-dealers are diverse along many dimensions relevant to the likely magnitude of their expected CAT costs, including business practices; tendency to centralize technology; specialization in market segments, such as options versus equities; and the range of products and markets in which individual broker-dealers participate. Because broker-dealer diversity is great, a survey of expected broker-dealer costs would ideally have a higher response rate to ensure a representative sample. Furthermore, of the 167 responses incorporated into the Plan's cost estimates, 118 respondent firms were classified as small in the Reporters Study, and 88 of these 118 small firms were identified as having no current OATS reporting responsibilities.[878] The Commission preliminarily believes that small firms that anticipate limited CAT reporting responsibilities may have been oversampled by the Reporters Study survey because for nearly all categories of cost estimates, the median small firm response was zero, suggesting that they do not expect to have CAT reporting responsibilities. Consequently, the Start Printed Page 30714Commission preliminarily believes that the small firms that responded to the study cannot be statistically representative of the small firms that would incur CAT reporting obligations, because the Commission believes that most small broker-dealers would incur significant costs in reporting to CAT.[879] These costs are estimated below.

Although the Commission has preliminarily concluded that the small broker-dealer cost estimates presented in the Plan are unreliable, the Commission also preliminarily believes that the cost estimates in the Plan for large broker-dealers may be reliable. The Commission preliminarily believes that problems with the Reporters Study data are less likely to affect the Plan's large broker-dealer cost estimates for several reasons. First, if a large broker-dealer were to respond to the Reporter Study survey with the incorrect level of units (resulting in estimates that were 1,000 times too large as was the case for some small broker-dealer responses), then these errant cost survey responses would result in estimates that likely would be denominated in billions of dollars. The maximums presented in the Plan's tables describing the Reporters Study data do not include responses denominated in billions; notably, under the Plan's cost estimate methodology, if such responses were generated, these responses likely would have been removed as outliers. Second, although it is possible that small broker-dealers misclassified themselves as large broker-dealers in the Reporters Study data, such misclassification does not seem to have biased the cost estimate results for large broker-dealers to the degree that the Commission preliminarily believes has occurred for the small broker-dealer Reporters Study data. Cost estimates for large broker-dealers, particularly those that do not have current OATS reporting obligations, are not inconsistent with information gathered by the Commission in discussions with broker dealers and service providers,[880] although the Commission preliminarily believes that averages presented in the Plan generally fall between the expenses that a very large and complex broker-dealer would experience and those of a more typical broker-dealer in the same category. For example, the Plan estimates that the average large OATS-reporting broker-dealer currently spends $8.7 million annually to comply with current data reporting requirements.[881] The Commission preliminarily believes that this estimate is likely to be substantially lower than the actual data reporting costs incurred by the largest and most complex broker-dealers that currently report to OATS; these very large and complex firms are assumed to spend far more than this estimate. There are, however, only a limited number of exceptionally large OATS-reporting broker-dealers. Similarly, the Plan's estimate is likely to significantly overestimate the costs incurred by the majority of firms classified as large by the Plan because most large firms are not as large or as complex as these limited number of exceptionally large broker-dealers. Summary statistics on activity levels of OATS reporting firms are discussed in detail below.

The Plan presents cost estimates for large broker-dealers' current regulatory data reporting costs and costs they would incur to implement and maintain CAT Data reporting. The Plan estimates that an OATS-reporting large broker-dealer has current data reporting costs of $8.7 million per year.[882] A non-OATS reporting large broker-dealer is estimated to spend approximately $1.4 million annually.[883] The Plan estimates that OATS-reporting large broker-dealers would spend approximately $7.2 million to implement CAT Data reporting, and $4.8 million annually for ongoing costs.[884] For non-OATS reporting large broker-dealers, the Plan estimates $3.9 million in implementation costs and $3.2 million in annual ongoing costs.[885] According to the Plan, the magnitude of each of these cost estimates is primarily driven by FTE costs.

(2) Commission Cost Estimates

The Commission's broker-dealer cost estimates incorporate some broker-dealer data from the Plan, but to address issues in the Plan's Reporters Study data, the Commission's cost estimates also include other data sources.[886] As previously discussed, the Commission preliminarily believes that the small firm cost estimates presented in the Reporters Study are unreliable. As a result, the Commission has re-estimated the costs that broker-dealers likely would incur for CAT implementation and ongoing reporting. As with the Plan's cost estimates, the Commission's re-estimation relies on classifying broker-dealers based on whether they currently report OATS data. However, the re-estimation further classifies broker-dealers, as in the Commission's cost estimates presented in the Proposing Release, based on whether the firm is likely to use a service bureau to report its regulatory data, or, alternatively, whether the firm might choose to self-report its regulatory data. In this updated analysis, the Commission preliminarily estimates that the 1,800 broker-dealers expected to incur CAT reporting obligations currently spend approximately $1.6 billion annually to report regulatory data.[887] If the CAT NMS Plan is Start Printed Page 30715approved, the Commission preliminarily believes that these broker-dealers would incur approximately $2.2 billion in implementation costs and $1.5 billion in ongoing data reporting costs.[888]

The Commission preliminarily believes classifying broker-dealers based on their manner of reporting provides a more accurate estimate of the costs firms will incur because, as noted below, costs differ based on whether the firm insources or outsources reporting responsibilities and insourcing/outsourcing does not necessarily correlate with firm size. Accordingly, the Commission begins its estimation of costs using the number of OATS Reportable Order Events (“ROEs”) reported by firms that report to OATS. The Commission preliminarily believes that because OATS reportable events, such as order originations, routes, and executions are also CAT Reportable Events, these two measures are likely to be highly correlated, making the number of OATS records a proxy for the anticipated level of CAT reporting.[889] Based on discussions with broker dealers and service providers, however, the Commission preliminarily believes that firms that report high numbers of OATS ROEs decide to either self-report their regulatory data or outsource their regulatory data reporting based on a number of criteria, including potential costs.[890] Thus, simply using the number of OATS ROEs as a proxy for firm size may not provide an accurate picture of the reporting costs for such firms. As a result, the Commission goes a step further in its estimation of costs by segmenting firms into two groups—those that insource and those that outsource their regulatory data reporting—and estimates costs separately for each group. Empirical evidence supporting this approach is detailed further below.[891]

The Plan also separates industry costs of current OATS reporting firms from those that currently have no OATS reporting obligations, recognizing that the group of non-OATS reporting firms are diverse in size and scope of activities. The Commission maintains this approach in its re-estimation, as firms that do not currently report to OATS would face a different range of costs to implement and maintain CAT reporting because firms that currently do not report to OATS may have little to no regulatory data infrastructure in place. Broker-dealers that do not currently report to OATS may have higher or lower costs than firms that do report to OATS, depending on whether they do not report because of SRO membership status or lack of equity market activity or because of size and scope of activity within equity markets. For example, an electronic liquidity provider (“ELP”) may trade extensively both on and off-exchange, yet not report to OATS because it is not a FINRA member; such a firm could incur high data reporting costs under CAT because it has a high volume of records to report. Conversely, a small equity trading firm might be excluded or exempted from OATS reporting due to its size and scope of activities; such a firm could have relatively low CAT reporting costs, although still higher than its existing regulatory reporting costs, because it has few Reportable Events and is assumed to outsource its reporting responsibilities. Recognizing this diversity in non-OATS firms, the Commission's re-estimation anticipates a large range of firm activity levels in non-OATS CAT reporters and treats them differently when estimating their costs.[892] This is discussed further below.

In sum, the framework for the Commission's re-estimation is as follows. First, the Commission identifies those OATS-reporting firms that insource (“Insourcers”) and those that outsource based on an analysis of the number of OATS reporting ROEs combined with specific data provided by FINRA on how firms report. Furthermore, the Commission identifies firms that do not currently report to OATS but are likely to insource based on their expected activity level by identifying Options Market Makers and ELPs. Based on that analysis, the Commission preliminarily estimates that there are 126 OATS-reporting Insourcers and 45 non-OATS reporting Insourcers; these estimates are discussed further below. The Commission's re-estimation classifies the remaining 1,629 broker-dealers that the Plan anticipates would have CAT Data reporting obligations as “Outsourcers,” based on outsourcing practices observed in data obtained from FINRA and discussed further below. The Commission preliminarily believes that most of these firms would accomplish their CAT Data reporting through a service bureau. Next, to determine costs for Insourcers, the Commission relies upon cost estimates for firms classified as “large” in the Reporters Study. For Outsourcers, the Commission uses a model of ongoing outsourcing costs (“Outsourcing Cost Model”) to estimate both current regulatory data reporting costs and CAT-related data reporting costs Outsourcers would incur if the CAT NMS Plan were approved.

A. Broker-Dealer Reporting Practices

Although the Commission's analysis segregates broker-dealers into two groups (Insourcers and Outsourcers), within those groups, broker-dealer data reporting methods currently vary widely across firms, and these varied methods affect the data reporting costs that broker-dealers incur. As discussed previously, depending on the business in which broker-dealers participate, broker-dealers can have a wide range of reporting responsibilities.

There are two primary methods by which broker-dealers accomplish data reporting: Insourcing, where the firm reports data to regulators directly; and outsourcing, where a third-party service provider performs the data reporting, usually as part of a service agreement that includes other services. Firms that outsource retain responsibility for complying with rules related to outsourced activity. Based on data from FINRA and conversations with market participants, the Commission preliminarily believes that the vast majority of broker-dealers outsource most of their regulatory data reporting Start Printed Page 30716functions to third-party firms. Data provided by FINRA shows that 932 broker-dealers reported at least one OATS ROE between June 15 and July 10, 2015.[893] Of these 932 firms, 799 reported at least 90% of their OATS ROEs through a service bureau. Broker-dealers generally used a single service bureau (497 firms) to report OATS, but some broker-dealers used multiple service bureaus (up to 9 service bureaus).

Often, service bureaus bundle regulatory data reporting services with an order-handling system service that provides broker-dealers with market access and order routing capabilities. Sometimes regulatory data reporting services are bundled with trade clearing services. A broker-dealer's decision to insource/outsource these functions and services can be complex, and different broker-dealers reach different solutions based on their business characteristics. To illustrate, some broker-dealers self-clear trades but outsource regulatory data reporting functions; some broker-dealers have proprietary order handling systems, self-clear trades, and outsource regulatory data reporting functions. Other broker-dealers outsource order-handling, outsource clearing trades, and self-report regulatory data. The most common insource/outsource service configuration, however, for all but the most active-in-the-market broker-dealers is to use one or more service bureaus to handle all of these functions.

In most, but not all, cases, service bureaus host their client broker-dealer's order-handling system on the service bureau's servers while the broker-dealer has software serving as a “front end” for this system running on the broker-dealers' local IT infrastructure. For broker-dealers whose order-handling systems are thus hosted on their service bureau's servers, their service bureaus would handle many elements of CAT implementation, including clock synchronization. These broker-dealers would still incur some CAT implementation costs because some CAT Data, such as Customer information (including PII), is likely to reside outside of the broker-dealer's order handling system; consequently, such broker-dealers would need to develop technical and regulatory infrastructure to provide such CAT Data to its service bureaus. Further, broker-dealers that outsource could still need to adapt their in-house software systems to address order-management system changes. In addition to the resources needed to reprogram the system, any order-handling system change is likely to require significant staff training. Furthermore, broker-dealers that outsource would need to update their internal monitoring of their service bureau's reporting to ensure it meets the requirements of the Plan.

In discussions arranged by FIF, broker-dealers cited a number of factors that influence a broker-dealer's decision on whether to handle regulatory data reporting in-house. Generally, smaller broker-dealers (with relatively few registered persons and limited capital) do not have the business volume required to support the IT infrastructure and specialized staff that is necessary to perform in-house regulatory data reporting; these broker-dealers may have no business choice but to rely upon third-party service providers to provide order handling and market connectivity, as well as clearing services.[894] For larger broker-dealers, outsourcing is more likely to be a discretionary business decision. In discussions with staff, larger broker-dealers cited a number of reasons to outsource. First, it may be a strategic choice; some broker-dealers view regulatory data reporting as a function that offers no competitive advantages and a costly distraction from other business activities, as long as an alternative solution satisfies reporting requirements. For these firms, compliance might be achieved at a lower-cost in-house, but the firms prefer to outsource the data reporting function to focus key resources on business functions. Second, some broker-dealers outsource these functions to reduce costs associated with demonstrating regulatory compliance. Multiple broker-dealers stated that using a regulatory reporting service that was familiar to regulators allowed more efficient regulatory examinations, because an in-house regulatory reporting system might require more staff time invested in facilitating examinations and demonstrating compliance. Third, some broker-dealers cited that keeping current with regulatory requirements drove their decision to outsource. These broker-dealers may have insourced initially, but they relayed that over time they experienced accelerating regulatory rule changes, which led to an escalation in their compliance costs. For these firms, the pace of regulatory rule changes drove the decision to outsource where they had at one time insourced, because the firm could fulfill its regulatory responsibilities at a lower cost by outsourcing and monitoring the service bureau's compliance.[895]

On the other hand, some broker-dealers choose to insource their regulatory data reporting functions. In discussions arranged by FIF, broker-dealers cited a number of reasons supporting their decision to self-report. First, some broker-dealers cited ancillary benefits to constructing the IT infrastructure necessary to accomplish their regulatory data reporting. Data collected in a central location for regulatory data reporting and the software necessary to manipulate the regulatory data facilitates self-monitoring and business reporting, providing other benefits to the firm. Second, some broker-dealers cited protecting their proprietary strategies as a motivator to self-report regulatory data. These broker-dealers felt that sharing their trading data with a service bureau was potentially too revealing of their proprietary trading strategies. Third, some broker-dealers cited operational complexity as a driver of their insourcing decision. For these very large broker-dealers that traded in a wide range of assets, outsourcing would involve multiple service provider contracts. At least one broker-dealer stated that it did not believe service bureaus could meet all of its requirements due to its complexity. Finally, while some broker-dealers preferred to outsource to reduce the costs of demonstrating compliance, others stated that outsourcing would increase compliance costs because they could not conduct their own compliance checks to ensure the reports comply with relevant regulations.Start Printed Page 30717

Current costs of outsourcing regulatory data reporting vary widely across broker-dealers. Whether data reporting is provided on behalf of a broker-dealer by the provider of an order-management system or another third-party firm, a broker-dealer generally enters into long-term agreements with its service provider to obtain a bundle of services that includes regulatory data reporting, and costs to change service bureaus are high. Furthermore, based on discussions with service providers, the Commission understands that switching service bureaus can be costly and involve complex onboarding processes and requirements, and that systems between service bureaus may be disparate; furthermore, changing service bureaus may require different or updated client documentation.[896] The Commission preliminarily believes that annual costs for provision of an order-handling system (including market connectivity, routing and regulatory data reporting) range from $50,000 to $180,000 annually for very small broker-dealers. Costs for very large broker-dealers that outsource these functions begin at $1 million to 2.4 million annually.[897]

For broker-dealers that perform regulatory data reporting in-house, implementation costs are likely to vary widely. Some very large broker-dealers that self-report regulatory data have a centralized IT infrastructure and trade in relatively few asset classes. Some of these broker-dealers carry no customer accounts, simplifying their regulatory data reporting obligations. The Commission preliminarily believes that such broker-dealers could incur relatively low CAT implementation costs because they have a centralized IT infrastructure that captures all broker-dealer activity and specialized personnel who are dedicated to broker-dealer-wide data reporting. At the other end of the spectrum, large broker-dealers may be very complex, facilitating complex multi-leg transactions and operating within a non-centralized structure. These broker-dealers would be likely to experience CAT implementation costs far higher than broker-dealers with less complex structures for several reasons. First, some of these broker-dealers do not have a centralized IT infrastructure; instead, orders could originate from many locations in the broker-dealer and may be handled by diverse legacy systems, each of which the broker-dealer would need to adapt for CAT Data reporting.[898] Second, broker-dealers that accommodate more complex transactions that involve multiple asset classes would likely need to invest more time in understanding new regulatory requirements. In discussions with market participants, several broker-dealers noted, among other concerns, that determining the correct regulatory treatment for unusual trades can be a significant cost-driver in implementing regulatory rule changes and can delay implementation of system changes or precipitate a second round of changes once regulatory treatment of these trades is clarified. Third, broker-dealers that lack a centralized IT infrastructure would likely incur higher costs to comply with clock synchronization requirements because more servers may be handling orders than in firms with a more centralized IT infrastructure.

B. Re-Estimation

i. Count of Firms Likely To Rely Upon Service Bureaus for Data Reporting

To separately examine the costs to broker-dealers that outsource and to aggregate those costs across all broker-dealers, Commission Staff first established a count of CAT Reporters likely to outsource their regulatory data reporting functions. For this, the Commission analyzed data provided by FINRA.[899]

The FINRA data allows the Commission to examine how broker-dealers' current outsourcing activities vary with the number of ROEs reported to OATS. Figure 1 shows the percentage of OATS ROEs that are self-reported for five size categories of broker-dealers with the following OATS reporting activity levels for a four-week period from June 15-July 10, 2015: More than 1 billion records; 1 million to 1 billion records; 350,000 to 1 million records; 100,000 to 350,000 records; and 100,000 records or fewer.[900] The bars for each category represent the percentage of total OATS ROEs reported by broker-dealers in the category that were reported directly by the broker-dealers.

Start Printed Page 30718

Based on this analysis of FINRA data, the Commission preliminarily believes that the 126 broker-dealers that reported more than 350,000 OATS ROEs between June 15 and July 10, 2015 make the insourcing-outsourcing decision strategically based on the broker-dealer's characteristics and preferences, while the remaining OATS reporters are likely to utilize a service bureau to accomplish their regulatory data reporting.[901] The categories of broker-dealers assumed to outsource their data reporting are marked with an asterisk (*) in Figure 1.

As seen in Figure 1, broker-dealers in the highest OATS-reporting category insourced reporting for more than 60% of the OATS ROEs reported. More specifically, the FINRA data shows that 16 broker-dealers reported more than a billion OATS ROEs each between June 15 and July 10, 2015; most of these broker-dealers (11) self-reported nearly all of their regulatory data, but 3 used service bureaus for 100% of their OATS reporting.

Figure 1 also shows that broker-dealers that report between 1 million and 1 billion OATS ROEs during the four-week period insourced reporting for more than 70% of the OATS ROEs they reported in aggregate. Thirty-six of these 89 broker-dealers used service bureaus to report at least 90% of their OATS data while 42 of these 89 broker-dealers self-reported over 99% of their regulatory data.

For the 21 broker-dealers that reported more than 350,000 but fewer than 1 million OATS ROEs during the sample period, Figure 1 shows that they insource approximately 27% of their aggregate OATS ROEs reporting. Thirteen of these broker-dealers use service bureaus for more than 99% of their OATS reporting while 7 of these 21 broker-dealers self-reported more than 98% of their OATS data.

For the 806 broker-dealers that reported fewer than 350,000 OATS ROEs during the sample period, approximately 88.9% of those OATS ROEs were reported through service bureaus, with 730 broker-dealers reporting more than 99% of their OATS ROEs through one or more service bureaus.[902] These broker-dealers are represented in the two right-most bars in Figure 1 that are identified with asterisks (*) in their labels. Because of the extensive use of service bureaus in these categories of broker-dealers, the Commission assumes that these broker-dealers are likely to use service bureaus to accomplish their CAT Data reporting.

ii. Estimation of Outsourcing Costs

The Commission has estimated ongoing costs for outsourcing firms using a model based on data gleaned from discussions with service bureaus and broker-dealers and implementation costs using information learned in conversations with industry.[903] Service bureaus that provide order-handling systems, market connectivity and regulatory data reporting services estimated that a very small broker-dealer was likely to currently spend $50,000-$180,000 per year for these services; they suggested that current annual costs for very large broker-dealers would likely be $1,000,000-$2,400,000 but could be greater in some cases.[904] The Commission assumes that a very small broker-dealer would report a single OATS ROE per month and a very large broker-dealer would report 100 million OATS ROEs per month.[905]

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Based on discussions with market participants, the Commission assumes that the cost function for outsourcing is concave.[906] This type of function is appropriate when costs increase as activity level increases, but the cost per unit of activity (e.g., cost per report) declines as activity increases. Volume discounts can create such cost functions. Alternatively, if the Commission estimates outsourcing costs as a linear function using the two point-estimates (very small firms and very large firms) obtained from service bureaus, that outsourcing cost model would underestimate the costs of broker-dealers that are neither very large nor very small due to the concavity of the function. As shown in Figure 2, a concave function is greater than the linear function that connects its endpoints. To illustrate the underestimation concern, if the estimated pricing function was a straight line but the actual pricing function was concave, the estimates would be too low. Lacking data on outsourcing costs faced by broker-dealers with activity levels that are neither very small nor very large, which would assist the Commission in estimating the degree of concavity of the pricing function, the Commission's estimation assumes that service bureau pricing functions are similar in concavity to equity exchange pricing functions.[907]

The Commission relies on a schedule of average charges to access liquidity and rebates to provide liquidity from four non-inverted exchanges to estimate the concavity of the exchange pricing function, which the Commission uses to approximate the concavity of the outsourcing cost model.[908] On such exchanges, the party receiving liquidity in the transaction generally pays a fixed fee to do so; the party providing liquidity receives a rebate from the exchange. This rebate often marginally increases with the market participant's aggregate volume on the exchange.[909] For liquidity providing firms, this pricing scheme would imply a concave function of the cost differential between taking and providing liquidity, which informs the Commission's estimation of the degree of concavity of the outsourcing cost model. The Commission preliminarily believes that estimating the shape of the function [910] using exchange pricing functions is a reasonable approach because the same Start Printed Page 30720activities that determine a broker-dealer's access fees on exchanges—such as executing orders and the activities such as order submission that are requisite to those executions—would affect the broker-dealer's impact on a service bureau's infrastructure and thus the fee that a service bureau is likely to charge to provide services to the broker-dealer.

The Commission's estimation of the outsourcing cost model begins with construction of a tiered function based on the exchange pricing function; the incorporation of the exchange pricing function is the source of the concavity in the model.[911] The Commission's estimation of exchange pricing assumes four activity level categories.[912] The Commission preliminarily mapped OATS reporting activity levels to exchange fee break points, with the assumptions that only a very small minority of firms would qualify for the lowest-fee tier of services and all of the firms that reported so few OATS ROEs to be assumed to be Outsourcers would be at the highest-cost tier of service.[913] Consequently, the Commission assumed the first fee break-point to be 350,000 OATS messages per month. A firm with 1 million messages per month is assumed to qualify for the third pricing tier. To qualify for the most favorable pricing tier, a firm would need to report more than 100 million OATS messages per month. The model is fitted by adding a constant to the implied cost of message traffic to bring firms with a single OATS ROE to the minimum $50,000 annual fee discussed by service bureaus. The fee for very large firms (for purposes of this model, 100 million plus records per month) is calibrated by multiplying the estimated exchange fee tiered function by a constant scale factor of 30. With these adjustments, the tiered function implies a firm with 20,000 OATS ROEs per month would incur a service bureau fee of $50,705 annually; a firm with 100 million OATS ROEs per month would incur a service bureau fee of $1.175 million annually; and a firm with 1 billion OATS ROEs per month firm would incur a service bureau fee of $11.3 million annually.[914]

The final step in estimating the Outsourcing Cost Model is to smooth the tiered function by fitting it to a polynomial. As discussed previously, tiered functions are not continuous; the behavior of the function can change dramatically at a discontinuity, such as happens when moving from one activity level category to another. In the earlier illustrative example, a vendor offered pricing that would be characterized by a tiered function, in which the firm charges $1 per unit for orders of 100 units or less, or $.80 per unit for orders up to 400 units. In this example, a purchase of 100 units is more expensive than a purchase of 120 units.[915] On exchanges, the pricing discontinuities may be acceptable to broker-dealers because the broker-dealers can more easily estimate a range of volume rather than actual volume, and thus pricing discontinuities may allow the broker-dealers to better forecast their expected exchange fees based on those volume ranges. For the Outsourcing Cost Model, however, such discontinuities are undesirable because service bureaus negotiate the contract with each customer individually and contracts generally cover a period of several years. Consequently, service providers provide custom quotations in consideration of the firm's business activities and likely capacity impact upon the provider's infrastructure. The Commission preliminarily believes that there are unlikely to be instances in which a service bureau's costs to service a customer would decrease if the customer were to become more active, and because the contract has a fixed cost, there is unlikely to be incentives to price with a tiered function to ease billing. To smooth the Outsourcing Cost Model, the Commission estimates a second degree polynomial to points imputed across the tiered function.[916] This step essentially involves finding a smooth curve that closely tracks the tiered function, but smoothes its discontinuities.

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The model's output in Figure 3 is an estimate of a broker-dealer's current cost to outsource data reporting services as part of a bundle of services from a service bureau; for smaller broker-dealers, it is assumed to include provision of an order management system and market connectivity.[917]

To estimate costs of CAT Data reporting by the service bureaus, the Commission preliminarily assumes that the current pricing function would apply for CAT Data reporting, but the costs in relation to the number of ROEs would increase because some events that are excluded from OATS (like proprietary orders originated by a trading desk in the ordinary course of a member's market making activities), would be included in CAT.[918] The Commission estimates the expected increase in broker-dealer data by estimating the ratio of all SRO audit trail data (OATS and exchange data) to OATS data; with this methodology, the Commission estimates CAT Data ROEs reported by broker-dealers would increase from those reported to OATS by a factor of 1.9431.[919] The Commission preliminarily believes that the assumption of the same cost function is reasonable for several reasons. First, the service bureaus that provide market access for broker-dealers already process the exchange traffic for most of these broker-dealers. Although the number of ROEs reported would increase, service bureaus already host most of the data that broker-dealers would report to the Central Repository. Second, although some broker-dealers would have to establish a process of hosting or processing their customer information at their service bureau, many broker-dealers already do so to allow their service bureau to prepare information for clearing.[920] Start Printed Page 30722Consequently, most service bureaus have already established the infrastructure to host or process customer information. Third, the Plan requires broker-dealers to update customer information files, one of the additional data sources that broker-dealers would need to report to the Central Repository. While the costs of ensuring the appropriate security could be significant, these updates occur at a much lower frequency than the rate of a service bureau customer's market activity, and thus such updating activity would be unlikely to provide a technological stress on a service bureau's infrastructure.

The Commission preliminarily believes this activity is unlikely to result in a service bureau pricing structure that significantly differs from the Commission's current outsourcing cost model. The Commission recognizes, however, that these new data sources create implementation costs for both broker-dealers and service bureaus, and preliminarily believes that these costs are reflected in cost estimates provided by service bureaus because service providers that responded to the Service Providers Study were presumably familiar with the requirements of CAT when they estimated the costs they could likely incur if the CAT NMS Plan is approved. The number of ROEs broker-dealers would report would likely increase because, for example, proprietary orders originated by a trading desk in the ordinary course of a member's market-making activities, currently excluded from OATS, would be included in a broker-dealer's audit trail data under the Plan.[921] The increase in ROEs would drive an increase in service bureau costs that the Commission's model anticipates for broker-dealers that would outsource CAT Data reporting obligations.[922] For illustration, consider two firms: Firm A reports the median number of OATS ROEs per month in the Outsourcers sample (1,251) and Firm B reports the maximum number of OATS ROEs per month (348,636). After CAT implementation, the estimation would assume that Firm A would report 2,431 ROEs of audit trail data per month and Firm B would report 677,435 ROEs of audit trail data per month.[923] Using the outsourcing cost model discussed above, Firm A's annual cost would increase from $124,021 to $124,035. Firm B's average annual cost would increase from $128,353 to $132,454.[924]

Application of the model to data provided by FINRA allows the Commission to estimate current outsourcing costs for broker-dealers, as well as projected costs under the CAT NMS Plan.[925] The Commission estimates that the 806 broker-dealers that monthly each currently report fewer than 350,000 OATS ROEs currently spend an aggregate $100.1 million on annual outsourcing costs.[926] Under the CAT NMS Plan, the Commission estimates these 806 broker-dealers would spend $100.2 million on annual outsourcing costs. The Commission recognizes that the magnitude of this increase is quite small, but this is driven by the fact that the vast majority of firms that are assumed to outsource have very low regulatory data reporting levels currently. As mentioned previously, the median firm in this group reports 1,251 OATS ROEs per month; only 39 of these 806 firms currently reports more than 100,000 OATS ROEs per month. The Outsourcing Cost Model also does not include additional staffing costs that the broker-dealer is likely to incur for implementation and maintenance of CAT reporting; these are discussed further below, and are the primary cost driver of costs that Outsourcers are expected to incur if the Plan is approved. Furthermore, the Commission is cognizant that data reporting is Start Printed Page 30723normally part of a bundle of services provided by a service bureau; many of those services, including the provision of market access and an order handling system, are likely to contribute substantially to the costs service bureaus bear to service their clients. The Commission is cognizant that while the volume of transactions reported by broker-dealers assumed to be Outsourcers are unlikely to dramatically increase under CAT, the service bureaus would incur significant costs to implement changes required by CAT reporting. Those costs are discussed below.[927] Assuming service bureaus pass those implementation costs on to their broker-dealer clients eventually, the Outsourcing Cost Model would change.[928]

Firms that outsource their regulatory data reporting still incur internal staffing costs associated with this activity. These employees perform activities directly related to regulatory data reporting such as answering inquiries from their service bureaus, investigating reporting exceptions, maintaining any systems that transmit data to their service providers, and overseeing their service bureaus' data reporting to ensure compliance.[929] Based on conversations with market participants, the Commission estimates that these firms currently have 0.5 full-time employees devoted to regulatory data reporting activities. The Commission further estimates these firms would need one full-time employee for one year to implement CAT reporting requirements, and 0.75 full-time employees on an ongoing basis to maintain CAT reporting.[930]

In addition to broker-dealers that currently report to OATS, the Commission estimates there are 799 broker-dealers that are currently excluded from OATS reporting rules due to firm size, or exempt because all of their order flow is routed to a single OATS reporter, such as a clearing broker, that would have CAT reporting responsibilities.[931] The Commission assumes these broker-dealers would have low levels of CAT reporting, similar to those of the typical Outsourcers that currently report to OATS.[932] For these firms, the Commission assumes that under CAT they would incur the average estimated outsourcing cost of firms that currently report fewer than 350,000 OATS ROEs per month, which is $124,373 annually. Furthermore, because these firms have more limited data reporting requirements than other firms, the Commission assumes these firms currently have only 0.1 full-time employees currently dedicated to regulatory data reporting activities. The Commission assumes that these firms would require 2 full-time employees for one year to implement the CAT NMS Plan and 0.75 full-time employees annually to maintain CAT Data reporting.[933]

The Commission recognizes that some broker-dealers that are categorized in its estimation as Outsourcers in fact currently self-report their regulatory data; there are 36 firms that the Commission categorized as Outsourcers that self-report more than 95% of their OATS ROEs. Some of these broker-dealers could find that the costs associated with adapting their systems to the CAT NMS Plan reporting would render self-reporting (insourcing) CAT Data reporting infeasible or undesirable; others could continue to self-report regulatory data. The Commission preliminarily believes that the estimated cost of outsourcing for these broker-dealers is reliable, but recognizes that some of these broker-dealers could choose to self-report for other reasons at costs that could exceed these estimates. If some of these broker-dealers choose to outsource under CAT, these broker-dealers would likely incur additional costs associated with establishing or re-negotiating service bureau relationships.[934] The Commission does Start Printed Page 30724not have information on existing service bureau relationships for firms that currently self-report OATS data, so cannot estimate the costs these firms might face in aggregate. It would be, however, unlikely that many firms of this size do not have relationships with service bureaus that would provide this service because firms with limited OATS reporting are unlikely to be large enough to self-clear and support the IT infrastructure necessary to provide a proprietary order handling system and market access.

C. Aggregate Broker-Dealer Cost Estimate

The Commission's methodology to estimate costs to broker-dealers of implementing and maintaining CAT reporting varies by the type of broker-dealer. As discussed previously,[935] the Commission preliminarily believes that the survey of small broker-dealers used in the Reporters Study is unreliable. The Commission does, however, rely on the Reporters Study's large broker-dealer cost estimates in estimating costs for Insourcers. Consequently, for broker-dealers that are FINRA members, the Commission relies on the Reporters Study data to estimate costs for broker-dealers that report more than 350,000 OATS ROEs per month (using estimates from the Reporters Study for large, OATS-reporting broker-dealers).[936] For lower activity FINRA-member broker-dealers (including those that do not currently report to OATS due to exclusions and exemptions to OATS reporting requirements), the Commission relies on the Outsourcing Cost Model to estimate costs for CAT Data reporting.

The Commission, however, preliminarily believes that there are three other categories of broker-dealers not reflected in the above detailed cost estimates that do not currently report OATS data but could be CAT Reporters. First, there are at least 14 ELPs that do not carry customer accounts; these firms are not FINRA members and thus have no regular OATS reporting obligations.[937] The Commission preliminarily believes that it is likely that these broker-dealers already have self-reporting capabilities in place because each is a member of an SRO that requires the ability to report OATS on request. The second group of broker-dealers that are not encompassed by the cost estimates of FINRA member broker-dealers discussed above are those that make markets in options and not equities. Although not required by the CAT NMS Plan to report their option quoting activity to the Central Repository,[938] these broker-dealers may have customer orders and other activity that would cause them to incur a CAT Data reporting obligation. Based on CBOE membership data, the Commission believes there are 31 options market-making firms that are members of multiple SROs but not FINRA.[939] The third group comprises 24 broker-dealers that have SRO memberships only with CBOE; the Commission believes this group is comprised primarily of CBOE floor brokers and, further, preliminarily believes these firms would incur CAT implementation and ongoing reporting costs similar in magnitude to small equity broker-dealers that currently have no OATS reporting responsibilities because they would face similar tasks to implement and maintain CAT reporting. The Commission assumes the 31 options market-making firms and 14 ELPs would be typical of the Reporters Study's large, non-OATS reporting firms because this group encompasses large broker-dealers that are not FINRA members, a category that would exclude any broker-dealer that carries customer accounts and trades in equities. For these 45 firms, the Commission relies on cost estimates from the Reporters Study.[940]

The estimated costs in the Reporters Study for non-OATS reporting firms are lower than the Reporters Study's estimated costs for large OATS-reporting firms; in reviewing the Reporters Study data, the Commission considered the possibility that firms that do not currently report OATS may systematically underestimate the costs they would incur to initiate and maintain the type of comprehensive regulatory data reporting that OATS entails or the CAT NMS Plan would entail. After discussions with multiple broker-dealers, the Commission, however, preliminarily believes that large non-OATS reporting firms would likely have lower CAT Data reporting costs than current OATS reporting large Start Printed Page 30725firms because large non-OATS reporting firms tend to be cutting-edge technology firms that already have a centralized IT infrastructure; they are unlikely to have a fragmented structure with multiple legacy systems. A centralized IT infrastructure with cutting-edge technology would likely simplify their implementation of the CAT NMS Plan, as fewer of their systems would need altering and fewer servers would be subject to clock synchronization requirements.

The Commission presents cost estimates for individual broker-dealers in Table 7 that include estimates of current costs, CAT implementation costs, and ongoing CAT reporting costs. In addition, Table 7 presents cost estimates for three categories of costs: Hardware/software; staffing; and outsourcing.[941] Table 7 also presents a total across these three categories.[942] Current data reporting cost estimates range from $167,000 annually for floor broker and firms that are currently exempt from OATS reporting requirements to $8.7 million annually for firms that currently report more than 350,000 OATS ROEs per month (“Insourcers”). One-time implementation costs range from $424,000 for current OATS reporters that are assumed to outsource (“OATS Outsourcers”) to $7.2 million for Insourcers. Ongoing annual costs range from $443,000 annually for firms that are assumed to outsource (OATS Outsourcers, New Outsourcers and Floor Brokers) to $4.8 million for Insourcers.

Table 7—Cost Estimates for Individual Broker-Dealers by Type

Broker-dealer typeCosts
Hardware/ softwareStaffingOutsourcingTotal
Current Costs:
Insourcers$720,000$7,587,000$400,000$8,707,000
ELPs3,0001,409,00022,0001,433,000
Options Market Makers3,0001,409,00022,0001,433,000
OATS Outsourcers 10212,000124,000336,000
New Outsourcers 1042,000124,000167,000
Floor Brokers 1042,000124,000167,000
CAT Implementation:
Insourcers750,0006,331,000150,0007,231,000
ELPs450,0003,416,00010,0003,876,000
Options Market Makers450,0003,416,00010,0003,876,000
OATS Outsourcers 10424,0000424,000
New Outsourcers 10849,0000849,000
Floor Brokers 10849,0000849,000
CAT Ongoing:
Insourcers380,0004,256,000120,0004,756,000
ELPs80,0003,144,0001,0003,226,000
Options Market Makers80,0003,144,0001,0003,226,000
OATS Outsourcers 10318,000124,000443,000
New Outsourcers 10318,000124,000443,000
Floor Brokers 10318,000124,000443,000
1 Outsourcing costs are modelled on an individual broker-dealer basis. Category averages are presented here.

Table 8 presents aggregate total costs to broker-dealers by broker-dealer type. The Commission estimates that broker-dealers spend approximately $1.6 billion annually on current regulatory data reporting activities. The Commission estimates approximate one-time implementation costs of $2.1 billion, and annual ongoing costs of CAT reporting of $1.5 billion. The Commission notes that estimates of ongoing CAT reporting costs of $1.5 billion are slightly lower than current data reporting costs of $1.6 billion. This differential is driven by reductions in data reporting costs reported by large OATS-reporting broker-dealers in the Reporters Study survey.[943] The Commission estimates that all other categories of broker-dealers would face significant increases in annual data reporting costs.

Table 8—Aggregate Broker-Dealer Cost Estimates

Broker-dealer typeCostsCountIndividual totalAggregate total
Hardware/ softwareStaffingOutsourcing
Current Data Reporting Costs:
Insourcers$720,000$7,587,000$400,000126$8,707,000$1,097,130,000
ELPs3,0001,409,00022,000141,433,00020,068,000
Options Market Makers3,0001,409,00022,000311,433,00044,437,000
OATS Outsourcers 10212,000124,000806336,000271,113,000
New Outsourcers 1042,000124,000799167,000133,137,000
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Floor Brokers 1042,000124,00024167,000