In response to the initial proposal received last August from the national securities exchanges and the Financial Industry Regulatory Authority (FINRA), the U.S. Securities and Exchange Commission (SEC) announced on May 6, 2015, that it has approved a two-year pilot program that would widen the minimum quoting and trading increments, which are known as ‘tick sizes,’ for select stocks of companies with smaller market capitalizations. The SEC stated that it plans to use the pilot program to assess whether wider tick sizes would enhance the market quality of these stocks and improve liquidity and capital formation for the benefit of issuers, investors and other market participants. A copy of the SEC order approving the tick size pilot program is available here. The program will begin by May 6, 2016.
In accepting the proposal, the SEC made a number of changes to the pilot program as it was originally proposed. The significant changes include the following:
- The pilot program duration will be two years rather than one year. In connection with this extension, the national securities exchanges and FINRA will now provide a joint assessment of the program to the SEC, which will be made public eighteen months from the start of the program (based on the first twelve months of data). Previously this assessment was to be provided six months from the end of the one-year program.
- The market capitalization threshold for securities to be included in the pilot program has been reduced to a $3 billion threshold from the proposed $5 billion threshold.
- Regarding the trade-at prohibition (described in more detail below), the venue limitation that required price-matching executions to occur where the person’s quotation was displayed has been removed and the size of block transactions eligible for the trade-at prohibition exception has been reduced (it is now defined as orders of at least 5,000 shares or for a quantity of stock having a market value of at least $100,000) in order to better reflect trading in smaller-capitalization companies.
- Data disclosure required by the pilot program related to market-maker profitability have been revised to make data collection less burdensome and to assure the protection of confidential business information.
The final pilot will include securities with the following characteristics during the measurement period (which will be a three-month period ending at least 30 days prior to the effective date of the pilot period):
- total market capitalization of $3 billion or less at the end of the measurement period
- a closing price per share of $2.00 or more at the end of the measurement period
- a closing price per share of $1.50 or more on each trading day of the measurement period
- an average daily trading volume during the measurement period of one million shares or less
- a volume-weighted average price per share greater than $2.00 per trading day during the measurement period.
Securities of issuers that have had initial public offerings within the past six months of the start of the pilot period will not be eligible to be included in the pilot program.
Like the proposed pilot program, the program will consist of a control group of approximately 1,400 securities and three test groups with 400 securities in each selected by a stratified sampling. The following conditions will apply to each group:
- Securities in the control group will be quoted at the current tick size of $0.01 per share and may be traded in any price increments currently permitted.
- Securities in the first test group will be quoted in $0.05 minimum increments, but like the control group will continue to trade at any price increment currently permitted.
- Orders priced to execute at the midpoint of the increment and orders through retail liquidity programs may be ranked and accepted in increments less than $0.05.
- Securities in the second test group will be quoted in the same $0.05 minimum increments as the first test group (along with applicable quoting exceptions), but will only be traded in $0.05 increments.
- Trading will be allowed in increments less than $0.05 in the following circumstances: (1) trading at the midpoint between the National Best Bid and the National Best Offer or the midpoint between the best protected bid and the best protected offer; (2) retail investment orders may be provided with price improvement that is at least $0.005 better than the best protected bid or the best protected offer; and (3) negotiated trades (such as volume-weighted average price and time-weighted average price trades). National Best Bid and National Best Offer are defined in Rule 600(b)(42) of Regulation NMS under the Securities Exchange Act of 1934, as amended, as the best bid and best offer for such security that are calculated and disseminated on a current and continuing basis pursuant to an effective national market system plan. Best protected bid and best protected offer mean the highest priced protected bid and lowest priced protected offer, respectively.
- Securities in the third test group will be quoted and traded in the same increments as the second test group (along with the applicable quoting and trading exceptions), but the third test group will also be subject to a “trade-at” prohibition.
- The trade-at prohibition forbids price matching by a trading center that was not quoting from the price-matching protected quotations and allows trading centers that were quoting from the price-matching protected quotations to execute orders only up to the displayed size, unless the trade falls under specified exceptions. The exceptions include those described for the second test group above and block transactions (with the reduced size amount as noted above for the block transaction exception).