Stock exchanges need to ramp up technology innovation as the equities market becomes more competitive, but a looming regulation overhaul may help level the playing field.
As trading venues like alternative trading systems and other off-exchange market centers offer competitive pricing and modern technology, there's pressure for
Devika Kornbacher, a partner at law firm Clifford Chance who co-leads a team advising on tech risk and opportunity, said major exchanges need to migrate and upgrade their core systems as other market participants, like brokers and traders, advance technology in the industry.
"At some point, there's going to be an interoperability bump," Kornbacher said. "So the idea of 'we'll sit here forever,' doesn't necessarily work because of the rapid pace of change of what's interacting with that tech."
SEC Chair Gary Gensler said in a
Monica Summerville, head of capital markets at the research firm Celent, said in a February interview that exchanges need to maintain operational resiliency, even as the sector evolves.
"The exchanges have been put in a position where they do have to compete, but they also have this weight of expectation on them," Summerville said. "They are the price setters … but at the same time, they're being forced to compete many times on an unlevel playing field with some of these newer venues."
Summerville said market participants know they need to ramp up their technology offerings. She added that while market stability should be a given, innovating can introduce risk.
Automating processes can help monitor potential problems, and orchestration technology can ensure resiliency and send alerts when issues arise, but making those shifts could disrupt old systems. Summerville said that relying on humans to monitor major systems creates "accidents waiting to happen."
Kornbacher said exchanges should keep in mind their software development life cycles, and strive to move toward agile software development, which prioritizes keeping up with the pace of innovation over perfection. She said that while some projects launch before every bug is fixed, keeping up with the industry is important.
On January 24, NYSE canceled more than 4,000 trades after a technical error caused share prices to fluctuate wildly when trading opened that day.
Kornbacher said most companies these days are trying to move to systems that aren't subject to human error. She added that cloud systems can offer more resiliency and security than on-premise systems, which she calls "old school," because cloud systems typically aren't subject to a single human's mistakes.
Summerville said that cloud providers are good options to add monitoring and automation, but latency, or speed lags, can be a challenge, since exchanges need immediacy.
Steve Gatti, a partner at Clifford Chance and head of its U.S. fintech practice, said technology has driven competition and improvement in the equities market. However, there's also been a rise in fragmentation in the sector as other trading venues gain popularity, which can limit price discovery. When retail investors are sent to separate venues and brokers, it's difficult to compare prices.
The SEC published a set of four proposals in December that could overhaul the U.S. equity market structure and level the playing field between exchanges and other venues. The public comment period for the proposals ends Friday, after which the agency will decide whether to finalize the rules.
"The SEC always goes back and forth between enhancing competition by allowing technology to innovate, and [worrying about] fragmentation, which might hurt the investor through a lack of price discovery," Gatti said.
One of the rules, designed to enhance order competition, would send small investor stock orders to auctions on venues like the Nasdaq and New York Stock Exchange, instead of wholesale brokers like Citadel Securities and Virtu Financial. Another proposal could permit exchanges to offer competitive prices by decreasing the minimum price movement requirement.
Earlier this month, NYSE, Charles Schwab and Citadel Securities submitted a joint letter to the SEC expressing concern that the commission issued "multiple far-reaching proposals that would dramatically overhaul current market structure without adequately assessing the cumulative impact on the market or the potential for unintended consequences."
"I think anytime there's a rule coming, you're going to have a camp that says, 'This is going to stop me from innovating,'" Kornbacher said.
Market infrastructure leaders are increasingly focused on transforming their systems, a 2021 Celent report showed. About 45% of technology leaders of global market infrastructure surveyed by Celent said they had a modernized technology platform in 2021, and 90% of respondents expect to have a modernized platform by 2025. The Celent report also showed that in 2021, more than 75% of global market infrastructure leaders surveyed said they were exploring cloud migration.
Gensler said in a
On March 15, the SEC also announced a proposal to expand and update Regulation Systems Compliance and Integrity (SCI), a set of rules adopted in 2014 to enhance the technology powering U.S. securities markets. Regulation SCI requires exchanges and other organizations to maintain certain tech policies and reporting. The amendments would increase requirements around topics like cybersecurity and cloud service providers' resiliency.
NYSE was fined $14 million in 2018 in the first charged violation of Regulation SCI, related to the rule's business continuity and disaster recovery requirements. In 2019, Virtu settled a Regulation SCI violation by agreeing to pay $1.5 million.
