SEC’s NMS Pilot Program of Vital Interest to ETFs

ETF Update

Date: May 10, 2018

Key Notes:

  • Changing exchange and ATS pricing model would directly impact how ETF shares trade.
  • ETF industry should pay closer attention to NMS structure issues.
  • Pilot program will generate reams of data on how ETF shares trade and orders are routed.


On March 14, 2018, the SEC proposed Rule 610T of Regulation NMS to conduct a transaction fee pilot program (Pilot) involving National Market System (NMS) stocks. NMS, the national system for trading stocks in the United States, includes all of the major stock exchanges and other facilities and entities used by broker-dealers to fulfill trade orders for securities, including ETF shares. The Pilot will subject stock exchange transaction and alternative trading systems (ATS) fee pricing, including “maker-taker” fee-and-rebate pricing models, to new temporary pricing restrictions across three test groups.

The exchanges and ATS will collect and publicly disseminate data on the impact of the three pilots, which will be studied by the SEC and industry participants with the goal of improving pricing, liquidity and trade execution quality. Any rule changes that flow from the Pilot will impact ETFs on the most basic level: the liquidity and quality of execution of ETF shares as well as the equity shares owned by the ETF. Sponsors of ETFs will have the opportunity to comment on the proposed Pilot prior to its launch.


When the SEC adopted Regulation NMS in 2005, it facilitated the transition of U.S. equities markets from single trading systems to a large number of trading centers that include stock exchanges and ATS that are electronically linked. Under NMS, orders, bid/ask quotations, available market participants and liquidity are dispersed across virtually the entire trading landscape. NMS put in place rules that protect orders and govern intermarket trading, rules addressing fair and efficient access to quotations, and limits on fees charged to access protected quotations.

Since the adoption of Regulation NMS, the SEC has undertaken a number of reviews of market structure and market events, revised and adopted new rules, and obtained input from the securities industry about how well and fairly NMS functions. The Equity Market Structure Advisory Committee (EMSAC) and other industry participants have provided the SEC with input including recommending a pilot program that actually tests real time theories on how modifications to equity exchange transaction fees and rebates impact for better or worse order routing behavior, execution quality and overall market quality.

Maker-Taker and Other Models

Exchanges and other trading centers aggregate orders to buy and sell ETF and other shares from market participants and charge fees to their members and users when they match an order to buy against an order to sell, at which point an execution occurs. As competition among trading centers intensified in the late 1990s, ATSs, and then exchanges, began to offer rebates to attract order flow. According to the SEC in its release proposing the Pilot, the predominant model that has emerged in the U.S. equities markets is the “maker-taker” fee model, in which, on the one hand, a trading center charges a per-share fee at execution, pays a broker-dealer participant a per-share rebate to provide (i.e., “make”) liquidity in the securities and, on the other hand, the trading center assesses the other broker-dealer participant a fee to remove (i.e., “take”) liquidity. For example, a firm that makes a trade happen by posting buy and sell offers is paid a fee, typically between about 20 and 30 cents for every 100 shares traded. Firms that take those shares are charged a fee. The trading center earns as revenue the difference between the fee paid by the taker of liquidity and the rebate paid to the provider or maker of liquidity.

Other models exist including “taker-maker” pricing model (also called an inverted model), in which a trading center charges the provider of liquidity and pays a rebate to the taker of liquidity. Rule 610(c) under Regulation NMS governs the “access fees” trading centers charge to access their quotes and prohibits them from imposing, or permitting to be imposed, “any fee or fees for the execution of an order against a protected quotation … that exceed or accumulate to more than $0.003 per share.”

In recent years, a variety of concerns have been expressed about the maker-taker fee model, including the rebates paid to attract orders. For example, some have questioned whether the prevailing fee structure has created a conflict of interest for broker-dealers, who must pursue the best execution of their customers’ orders while facing potentially conflicting economic incentives to avoid fees or earn rebates—both of which typically are not passed through the broker-dealer to its customers—from the trading centers to which they direct those orders for execution.


After receiving input from a variety of sources including the EMSAC, the SEC proposed the following Pilot. As shown in the table below, the Pilot consists of three test groups: one will prohibit rebates and linked pricing, and the other two will impose caps of $0.0015 and $0.0005 for removing or providing displayed liquidity. 

Outline of the Proposed Transaction Fee Pilot for NMS Stocks


Two years with an automatic sunset at one year unless, no later than 30 days prior to that time, the SEC publishes a notice that the pilot shall continue for up to another year; plus a six-month pre-Pilot period and six-month post-Pilot period.

Applicable trading centers

Equities exchanges (including maker-taker and taker-maker) but not ATSs or other non-exchange trading centers.

Pilot securities

NMS stocks with a share price ≥ $2 per share that do not close below $1 per share during the proposed Pilot and that have an unlimited duration or a duration beyond the end of the post-Pilot period.

Pilot design

Test group 1

$0.0015 fee cap

for removing and providing displayed liquidity (no cap on rebates).

Test group 2

$0.0005 fee cap

for removing and providing displayed liquidity (no cap on rebates).

Test group 3

Rebates and linked pricing prohibited

for removing and providing displayed and undisplayed liquidity (Rule 610(c)’s $0.003 cap continues to apply to fees for removing displayed liquidity).

Control group (remaining Pilot securities)

Rule 610(c)’s cap continues to apply to fees for removing displayed liquidity (no cap on rebates).

As indicated in the table, the Pilot will apply to all NMS stocks of any market capitalization and will include all equities exchanges, including taker-maker exchanges. It will last for up to two years with an automatic sunset at one year unless the SEC extends it.

Data from the Pilot will be used to inform the SEC, market participants and the industry about the effects of transaction-based fees and rebates under the three models. The SEC hopes that the data will facilitate a data-driven evaluation concerning the need for any potential regulatory action to improve order routing behavior, execution quality and market quality. The Pilot also will require the national securities exchanges to prepare and post on their websites public and downloadable data including aggregated and anonymized order routing data (updated monthly), and an XML dataset of standardized information on their transaction fees and rebates.

What’s Next

Comments about the Pilot are due to the SEC by May 25, 2018. As with any rule, there likely will be modifications prior to the SEC launching the Pilot. ETFs and their market makers, authorized participants, exchanges and other ETF service providers are expected to comment, and of great interest will be whether their concerns will be the same or differ. When the Pilot ends and presumably the optimum model is selected, ETF sponsors and shareholders should benefit through improved order routing, enhanced execution quality and greater overall market quality.


For more information, please contact:

Bibb Strench

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