Alternative Trading Systems: Will Computers Replace Stock Exchanges? (CRS Report for Congress)
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| Release Date |
May 27, 1999 |
| Report Number |
RL30195 |
| Report Type |
Report |
| Authors |
Mark Jickling, Government and Finance Division |
| Source Agency |
Congressional Research Service |
Summary:
Recently, the retired head of a large investment bank reflected on the great changes he had seen
on
Wall Street over his long career. The deregulation of commissions and the shift from partnerships
to public ownership were key events, but the changes brought by electronic technology were "a
revolution" that, although still in the early stages, "superseded the others infinitely."
Perhaps the most visible aspect of this electronic transformation has been the rise of Internet
trading by small investors. Another change, however, although less publicized, may have a much
greater impact on the way stocks are traded. This is the development of "alternative trading systems"
(ATSs), computer systems that match buyers and sellers of stocks and execute transactions without
the services of traditional brokers or exchanges. Benefits to investors of "cutting out the
middleman" include significantly lower trading costs and better information about market conditions
and prices. In the long run, competition between ATSs and traditional markets may lower the cost
of capital for business.
However, the rise of the ATS raises questions for market oversight. The traditional stock
exchange is not just a trading mechanism: under U.S. securities law, it is also a regulator. Exchanges
registered with the Securities and Exchange Commission (SEC) are required to make and enforce
rules against fraud and manipulation, to treat all participants fairly, and to act in the public interest.
Up to now, ATSs have not been required to register as exchanges their legal status has been as
broker/dealers. Accordingly, there have been concerns about possible gaps in investor protection,
market integrity and stability, and the absence of regulatory redress for problems that may arise in
ATS trading.
In December 1998, the SEC adopted rules concerning the regulation of ATSs. An ATS now
has the choice of whether to register as an exchange or to continue to be regulated as a broker/dealer
subject to a new Regulation ATS, which subjects an ATS to an increasing level of exchange-like
regulation as its trading volume rises. One of the largest ATSs, Island ECN, has indicated that it will
apply for registration as an exchange. Many of the largest securities firms, computer companies, and
financial data providers have announced plans to launch an ATS.
The House Banking Committee's Subcommittee on Capital Markets, Securities, and
Government-Sponsored Enterprises held a hearing on March 25, 1999 on technology and the
financial markets. Several witnesses addressed ATS-related issues. No current legislation is
pending, but the subject is an important one for congressional and regulatory oversight.
This report presents background information on the ATS markets and on the new SEC rules.
It will not be updated regularly barring significant legislative or marketplace developments.
