comment memo to file on credit suisse meeting · credit suisse provided the attached presentation,...

________________________________________________________________________

MEMORANDUM

TO: File No. S7-02-10

FROM: The Division of Trading and Markets

DATE: April 8, 2010

RE: Staff Meeting with Representatives of Credit Suisse

On April 6, 2010, staff of the Division of Trading and Markets met with representatives of Credit Suisse (Dan Mathisson, Managing Director and Head of Advanced Execution Services; Mary Whalen, Managing Director and Co-Head of Public Policy Americas; Vaishali Javeri, Director and Counsel, Legal and Compliance; and Annette Nazareth with Davis, Polk & Wardwell, Outside Counsel) to discuss the Commission’s concept release on equity market structure. Credit Suisse provided the attached presentation, entitled “Thoughts on the SEC Concept Release.”

CREDIT SUISS~

Slide 1

Slide 3

Dark Pools 11 %

Source: Credit Suisse AESAnalysis

Other TRF 18% CBOE

CREDIT SUISSE SECURITIES (USA) LLC

NYSEArca 12%

BATS 9%

CHXO.5%

NYSE Arret. 0.2%

Bid tAsk Spreads Globally, 01 2010:

"Other TRP' includes broker capital commitments and internalizations Data for March 2010

• Nasdaq

• NYSE Area

• NYSE

rnBATS

ISE

Nasdaq BX

8NSX

• NYSE Amex

.CHX

.CBOE

• Other TRF

.DireciEdge

• LavaFlow

'"Dark Pools

(J) (J) (Il c >. E "0 .::s:. c

~ "0 .Ill til .~

0)

ffi ~ @ "0 "0 Q) ~ "0 Gl Q) -€ ffi c

~ ffi]l ffi 1a Oro ffi => ~ "0 ~ ~ 0) +J

~ ar Q) 0

~ 0.. :2> E ~

~ ~

+J => (J)

@ ar tilE .\; -e J. l!!(J) '<:: a (J)

&l c 0 (J) --, 0) ~u.. Q) u.. z J::! => ~

0) (..')"0 ..c Q) OJ <{ c .\; OJ (j) (..') 0

~ £ (J) 3*= "0 Q)Z Q)c

*= Z::l c: ::l

Source: Credit Suisse AESAnalysis

After 12 years, there is a vibrant and healthy competition:

Reg ATS and Reg NMS have worked

ATS/NMS worked: US the world's tightest market

CREDIT SUISS~

CREDIT SUISS~

45

40

35 .--.(f)

0.. 30e +J (J)

250 u

1a 20l!! 0.. (J)

r 15

10

5

ATS/NMS worked: US the world's tightest market

Bid /Ask Spreads June 2008 - March 2010:

Avg 5&P Bid-Ask Spreads vs VIX

18 -,--------------------,- 90

16 80

~ 14 70

"0 12 60 'aim 50 iili. 10 ...I1Il

4O~2; 8 > 30~ 6

~ 20

2 g~o ~ 8 o9 9

c o .J:> o Q) Q) Q):::>..., LL oo

I·:.:·"" ....:... V1X --SPX Spreads - ••• Pre-Lehman level I Source: Credit Suisse AES Analysis

CREDIT SUISS~ Slid. 4

••••••••• 1111 ATS/NMS worked: US the most liquid market in the world

US Equity Volume (1998 - 2010)

j

20

18

16

14

i6 12 '-'

~ 10 ~

8~ & 6

4

2

Jan- Jan- Jan- Jan- Jan- Jan- Jan- Jan- Jan- Jan- Jan- Jan- Jan98 99 00 01 02 03 04 05 06 07 08 09 10

Source: Credit Suisse AES® Analysis

CREDIT SUISS~ CREDIT SUISSE SECURITIES (USA) LLC Slid. 5

ATS/NMS worked: large blocks actually growing

Number of blocks (Jan 2005 - March 2010) Number of block prints over time

(rolling 20d average)

1800 90

1600 80U> '" ~ ~ 70 .<::.<:: 1400

'" c ~ '" 0 ~ 0 1200 60 ·E

"Rj 1000· 50 "Rj~

~1il 1il.)'l 800 40 c .)'l'C

0. "§600 30 0.

ID 0

0 ID.0 400 20 .0E

:::> Ez :::>200 10 z

O· Jan-05 Jan-06 Jan-07 Jan-08 Jan-09 Jan-lO

I_ 100K+ (left axis) ~ 1 million+ (right axis) I Source: Credit Suisse AES® Analysis

CREDIT SUISS~ CREDIT SUISSE SECURITIES (USA) LLC Slide 6

-I I I I I I I I I I I II ATS/NMS worked: institutional commissions are low

Avg Institutional Commissions Per Share, U.S. 1995 - 2009

$0.060

$0.050

~ $0.040 ..c (J)

;v ll.. $0.030 c

.Q <J)

."l E $0.020E 0 u

$0.010

$1995 1997 1999 2001 2003 2005 2007 2009

Source: Tabb Group, SIA Database, Credit Suisse Research


Long-term effects of Reg ATS and Reg NMS

Slide 9

SlideS



Source: Credit Suisse Research

E*Trade Advertised Retail Commission (2003 2009):

$22.99 ••••••

.......................................................•......•

$9.99

$5

$25

$20

$10

$15

Current market structure has led to:

• Tight bid/ask spreads

• High volume

• Large # of block trades

• Low retail commissions

• Low institutional commissions

ATS/NMS worked: retail commissions are very low

CREDIT SUISS~

CREDIT SUISS~

Slid. 11

370.9

Slid. 10

ATS 11 %

Source: Rosenblstt Securities

Avg Shares / Day "0 of all (millions) volume

Breakdown of Dark Pool Volume

Source: Volume data from Rosenblatt Securities, February 2010.

NYSEkca 12%


BATS 9%


'Other TRP' includes broker capital corrrritrrents and internalizations

Data for March 2010

• Nasdaq

.NYSEkca

• NYSE

~BATS

ISE

Nasdaq BX

0NSX

• NYSE Amex

.CHX

.CBOE

.OlherTRF

• DirectEdge

• LavaF10w

- Dark Pools

Average Daily Volume of Dark Pools

US Equity market breakdown (February 2010)

Average volume per day in "closed" ATS's:

0 ~ .~ ~

~ ~ x ~ 0 -' "0 ..c: .£ 'liS 4) x

~ '" ~ ~ If ~ a.. 0 c Dl "§ Q; t E :J

C/l a.. :g 0 1i'i a. ~Ji 1: (9 -' ciJ ::> ::l 4) ~ 0::~ 0)

;e Dl ~ 3 x'" i7j .2' ::> :J

~ ':> "" 0 C/l c: 0

~~ u (9 ><: ~ '!!0 ~ c:

~ 0

0 0

0

Issue 1: Fair Access to ATS's (page 72-73 of release)

200

Issue 1: Fair Access to ATS's

CREDIT SUISS~

CREDIT SUISS~

150

u. (l>

'" ..c: 100(f)

c: ~ ':>

50

Issue 1: Fair Access to Dark Pools

Solve the real issue: fragmentation due to exclusive ATS's.

Proposal: Lower the Fair Access threshold from 5% to 0%.

ATS access above the threshold is currently based on objective criteria: "the standards for granting or denying access must be reasonable, documented, and applied in a nondiscriminatory manner. "

Note: a 0% threshold for fair access would not mean ATS's couldn't exclude - only that they couldn't exclude capriciously. end ATS discrimination!

CREDIT SUISS~ Slide 12

Issue 2: Price Discovery (p.67-70 of the release)

Exchange floors: the original dark pool

"Dark Pools" are just electronically replicating what used to

occur on the NYSE floor:

Client: "Hey Joey, buy 200,000 XYZ not-held. But don't

show any of it on the quote. I just want you to keep

your eyes and ears open."

Broker: writes down the order, stuffs it in his pocket,

and wanders off to specialist post.

Broker: "Jimmy, anything going on in XYZ today?"

Specialist: "Nothing, it's dead. You got anything?"

Broker: "Nothing I can show now. But I know of a guy

who may be looking for some."

Specialist: "OK, I'll let you know if I hear of any sellers."

The broker is working a dark order!

CREDITSUISS~ Slide 13

Issue 2: Price Discovery Benefits of dark liquidity

Credit Suisse uses "Dark Pools" because it produces better trading outcomes for long-term clients like mutual and pension funds.

Using data from June 2009 we divided VWAP 0lolume Weighted Average Price) algo orders into those that used dark liquidity and those that did not and measured performance. The orders were from a broad cross-section of clients and securities.

Slippage VS. VWAP when using_dark liquidity -0. 14cps. Slippage VS. VWAP when NOT using dark liquidity -0. 99cps.

0.85 cps savings from using dark liquidity

CREDITSUISS~ Slide 14

Issue 2: Price Discovery Do dark pools ruin "Price Discovery"?

• Traders can not be forced to show bids and

offers they don't want to show. Reducing dark

liquidity would almost certainly just result in

increased slicing of orders.

• "Price discovery" in illiquid markets is driven

by selling price, not bids or offers. Houses

and illiquid stocks are priced off last trade.


Issue 3: ATS Regulatory Structure (page 73) Why do ATS's exist?

ATS's have led market structure innovation for 12 years:

• Maker/Taker Pricing • Electronic Limit Order Books • Electronic Block Trading • Intelligent Inter-Market Connectivity • Peg Orders, Iceberg Orders, Hidden Liquidity Orders, etc.

• Successful ATS's become exchanges once the cost advantages of exchange clearing exceed the costs of getting licensed.

• Successful ideas pioneered at ATS's are adopted by incumbent exchanges as they compete for order flow.


Issue 3: ATS Regulatory Structure Is exchange liquidity different?

January 13, 2010: LaBranche sells all specialist operations to Barclays.

February 11,2010: GETCO buys 350 specialist pads from Barclays.

5 specialist firms on the NYSE: 1) GETCO

2) Goldman

3) BofA

4) Barclays

5) Kellogg Group

specialists 2004

specialists 2010


Issue 3: ATS Regulatory Structure

Exchange

• Receive tape revenue

• Clear trades for free (RIO)

• Low net capital requirements

• Regulatory approval required before major changes

• 20% ownership requirement

• SRO responsibility

ATS

• No tape revenue

• Pay for clearing (NSCC)

• High net capital requirements

• 20 day filing required before major changes

• No ownership limits

• Pay FINRA fees ,~ '-,

Currently, exchanges have economic advantage over dark pools, which is why BATS and DirectEdge have both chosen to become exchanges.

tennis, anyone?


Issue 4: "Trade At" rule (page 70-71)

Should Reg NMS be changed to protect displayed liquidity?

Visible bid / ask spreads are tightest in the world.

What problem is being solved here?

45 IB_id_I_A_s_k_S-=-p_re_a_ds_G_lo_b_a~IIY-,:,,-I_Q_1_2_0_1_0: ----, Exchange "take" fees 40 are a major cost of 35

5

10

'[e 30

§ 25 "0

~ 20 g-O) 15 ~

trading. "Trade At" would drive costs up by eliminating competition with cheaper alternatives like ATS's and aTe market-makers.


Issue 4: liTrade At" rule Should Reg NMS be changed?

A "Trade At" rule would have many unintended consequences:

• Drive retail commissions significantly higher, by forcing retail brokers to take expensive exchange liquidity instead of trading for free, or even rebated by aTe market-makers.

• Drive institutional commissions higher, by forcing brokers who match stock upstairs to first take expensive exchange liquidity.

• Potentially benefits HFT (primary displayers of liquidity) while hurting long-term and retail investors.

• Would decrease number of block trades, by making it harder to print, and by causing order slicing as dark venues become less competitive.


Conclusion

• As a result of Reg ATS and Reg NMS, the U.S. market is more liquid than ever, with the tightest bid/ask spreads in the world.

• The best market structure is a vibrant competition among market centers with strong fair access rules.

• "Trade At" would discourage competition, and is therefore a bad idea.

• Dark pools play an important role in allowing long-term investors to trade without revealing information.


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