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by Marshall E. Blume, Howard Butcher III Professor of Financial Management, the Wharton School, University of Pennsylvania, Philadelphia, and director, Rodney L. White Center for Financial Research, Philadelphia In 1975 Congress directed the Securities and Exchange Commission (SEC) to develop a national market system in which all orders to buy or sell equities would interact. Such a system assumes that one market will best serve the needs of all investors, but it is incompatible with how markets currently behave and how they will develop in the future. The regulatory efforts of the SEC since that time have been governed by a model of markets in which investor orders are executed fairly according to price-time priority. Blume argues, however, that the very concept of best price is not well defined and that investors might rationally prefer different types of markets. For instance, some investors place a high premium on speed of execution, and still others prefer a nonanonymous market. Given the great disparities in the types of U.S. investors—institutional investors, households with substantial assets, household with limited assets, day traders, and so on—it is not surprising that different ways of trading have evolved to satisfy their varying needs. A national market system abhors fragmentation because fragmentation limits interaction among order flow, yet fragmentation is at the heart of competition. New competition creates fragmentation, but significant fragmentation will occur only if the competition is successful. Extremely successful competition may well drive out existing markets, resulting ultimately in less fragmentation. Within the United States, the sharing of trade and quote information among markets helps to mitigate any deleterious effects of fragmentation. But the markets of tomorrow will be global. Technology will soon allow a market center or order-gathering function to be located anywhere in the world. This threat of relocation will place constraints on U.S. regulators, and global trading will make it more difficult for U.S. authorities to regulate investment practices and protect U.S. investors. To be effective in the global environment, Blume contends, the SEC will have to give up its goal of a national market system and shape its thrust to the regulatory issues of a global market. The SEC and other U.S. regulatory authorities will need to coordinate their activities with those of other nations. The U.S. equity markets are already in a state of transition. The impact of globalization should be minimal for the next several years, but in the longer term national borders will no longer confine the trading of domestic securities to their home markets. In this global market, U.S. regulators face a number of challenges, including include overseeing a global clearing and settlement system, preventing fraud, maintaining transparency, enforcing stockholder rights, collecting taxes, and integrating disparate and perhaps contradictory laws. To meet these challenges, the SEC and other U.S. regulators will need to bend their concept of a national market system with time-price priority, or even simple price priority, to the realities of a global market. |
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