Document ID: SEC-2022-0544-0001
Agency: sec
Document Type: Proposed Rule
Title: Further Definition of "As a Part of a Regular Business" in the Definition of Dealer and Government Securities Dealer
Posted Date: 2022-04-18T04:00Z

[Federal Register Volume 87, Number 74 (Monday, April 18, 2022)]
[Proposed Rules]
[Pages 23054-23106]
From the Federal Register Online via the Government Publishing Office [www.gpo.gov]
[FR Doc No: 2022-06960]

[[Page 23053]]

Vol. 87

Monday,

No. 74

April 18, 2022

Part II

 Securities and Exchange Commission

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17 CFR Part 240

Further Definition of ``As a Part of a Regular Business'' in the 
Definition of Dealer and Government Securities Dealer; Proposed Rule

  Federal Register / Vol. 87 , No. 74 / Monday, April 18, 2022 / 
Proposed Rules  

[[Page 23054]]

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SECURITIES AND EXCHANGE COMMISSION

17 CFR Part 240

[Release No. 34-94524; File No. S7-12-22]
RIN 3235-AN10

Further Definition of ``As a Part of a Regular Business'' in the 
Definition of Dealer and Government Securities Dealer

AGENCY: Securities and Exchange Commission.

ACTION: Proposed rule.

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SUMMARY: The Securities and Exchange Commission (``Commission'') is 
proposing new rules to further define the phrase ``as a part of a 
regular business'' as used in the statutory definitions of ``dealer'' 
and ``government securities dealer'' under Sections 3(a)(5) and 
3(a)(44), respectively, of the Securities Exchange Act of 1934 
(``Exchange Act'').

DATES: Comments should be received on or before May 27, 2022.

ADDRESSES: Comments may be submitted by any of the following methods:

Electronic Comments

     Use the Commission's internet comment form (https://www.sec.gov/rules/submitcomments.htm); or
     Send an email to [email protected]. Please include 
File Number S7-12-22 on the subject line.

Paper Comments

     Send paper comments to Vanessa A. Countryman, Secretary, 
Securities and Exchange Commission, 100 F Street NE, Washington, DC 
20549-1090.

All submissions should refer to File Number S7-12-22. This file number 
should be included on the subject line if email is used. To help the 
Commission process and review your comments more efficiently, please 
use only one method. The Commission will post all comments on the 
Commission's internet website (https://www.sec.gov/rules/proposed.shtml). Comments also are available for website viewing and 
printing in the Commission's Public Reference Room, 100 F Street NE, 
Washington, DC 20549, on official business days between the hours of 
10:00 a.m. and 3:00 p.m. Operating conditions may limit access to the 
Commission's public reference room. Persons submitting comments are 
cautioned that we do not redact or edit personal identifying 
information from comment submissions. You should submit only 
information that you wish to make available publicly.
    Studies, memoranda, or other substantive items may be added by the 
Commission or staff to the comment file during this rulemaking. A 
notification of the inclusion in the comment file of any such materials 
will be made available on the Commission's website. To ensure direct 
electronic receipt of such notifications, sign up through the ``Stay 
Connected'' option at www.sec.gov to receive notifications by email.

FOR FURTHER INFORMATION CONTACT: Emily Westerberg Russell, Chief 
Counsel; John Fahey, Deputy Chief Counsel; Joanne Rutkowski, Assistant 
Chief Counsel; Shauna Sappington Vlosich, Senior Special Counsel; James 
Blakemore, Special Counsel; or Katherine Lesker, Special Counsel at 
202-551-5550 in the Office of Chief Counsel, Division of Trading and 
Markets, Securities and Exchange Commission, 100 F Street NE, 
Washington, DC 20549-7010.

SUPPLEMENTARY INFORMATION: The Commission is proposing the following 
new rules under the Exchange Act: (1) 17 CFR 3a5-4 (Rule 3a5-4) and (2) 
17 CFR 3a44-2 (Rule 3a44-2) (collectively, the ``Proposed Rules'').

I. Introduction

    Advancements in electronic trading across securities markets have 
led to the emergence of certain market participants that play an 
increasingly significant liquidity providing role in overall trading 
and market activity--a role that has traditionally been performed by 
entities regulated as dealers.\1\ However, these market participants--
despite engaging in liquidity providing activities similar to those 
traditionally performed by either ``dealers'' or ``government 
securities dealers'' as defined under Sections 3(a)(5) and 3(a)(44) of 
the Exchange Act, respectively, and despite their significant share of 
market volume \2\--may not be registered with the Commission as either 
dealers or government securities dealers under Sections 15 and 15C of 
the Exchange Act, respectively.\3\ Because of this, investors and the 
markets lack the important protections that result from an entity's 
registration and regulation under the Exchange Act. In addition, 
obligations and regulatory oversight that promote market stability and 
investor protection are not being consistently applied to entities 
engaged in similar activities.
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    \1\ See Department of the Treasury, Notice Seeking Comment on 
the Evolution of the U.S. Treasury Market Structure, 81 FR 3928 
(Jan. 22, 2016) (``Treasury Request for Comment''). See also Joint 
Staff Report: The U.S. Treasury Market on October 15, 2014 (July 13, 
2015) (``2015 Joint Staff Report''), prepared by staff of the U.S. 
Department of the Treasury, Board of Governors of the Federal 
Reserve System, Federal Reserve Bank of New York, U.S. Securities 
and Exchange Commission, and U.S. Commodity Futures Trading 
Commission, available at https://www.sec.gov/reportspubs/special-studies/treasury-market-volatility-10-14-2014-joint-report.pdf. The 
2015 Joint Staff Report is a report of the Inter-Agency Working 
Group for Treasury Market Surveillance (``IAWG''). Staff reports, 
Investor Bulletins, and other staff documents (including those cited 
herein) represent the views of Commission staff and are not a rule, 
regulation, or statement of the Commission. The Commission has 
neither approved nor disapproved the content of these staff 
documents and, like all staff statements, they have no legal force 
or effect, do not alter or amend applicable law, and create no new 
or additional obligations for any person. See also Concept Release 
Concerning Equity Market Structure, Exchange Act Release No. 61358 
(Jan. 14, 2010), 75 FR 3594 (Jan. 21, 2010) (``2010 Equity Market 
Structure Concept Release'') at 3594-96 (discussing the evolution 
from ``a market structure with primarily manual trading to a market 
structure with primarily automated trading'').
    \2\ FEDS Notes, ``Principal Trading Firm Activity in Treasury 
Cash Markets,'' James Collin Harkrader and Michael Puglia (Aug. 4, 
2020) (``[Principal trading firms] dominate activity on the 
electronic [interdealer broker] platforms (61 [percent].''). For 
purposes of this release, the terms ``principal trading firms'' and 
``proprietary trading firms'' (collectively, ``PTFs'') will be used 
interchangeably.
    \3\ As used in this release, the term ``dealer'' refers to both 
dealers and government securities dealers unless explicitly noted or 
the context indicates otherwise.
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    The Commission believes that the identification and registration of 
these market participants as dealers, including those that are not 
currently regulated as dealers, would provide regulators with a more 
comprehensive view of the markets through regulatory oversight and 
would enhance market stability and investor protection.\4\ Accordingly, 
the Commission is proposing to further define what it means to be 
buying and selling securities ``as a part of a regular business'' 
within the definitions of ``dealer'' and ``government securities 
dealer'' under Sections 3(a)(5) and 3(a)(44), respectively.
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    \4\ As discussed in Section V below, the Commission believes 
that the Proposed Rules would support orderly markets and protect 
investors by addressing negative externalities that may arise in 
relation to market participants' financial and operational risks.
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Evolution of the Market

    Advancements in technology have affected securities trading across 
markets and asset classes; however, regulation has not always kept 
pace. This is especially true in the U.S. Treasury market in view of 
the increasingly significant role played by market intermediaries that 
are not registered as dealers. The U.S. Treasury market has evolved 
significantly over

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recent decades in at least two important ways. First, the amount of 
U.S. Treasury securities outstanding has increased substantially.\5\ At 
the end of 2007, Treasury debt held by the public totaled $5.1 
trillion, or 35 percent of that year's gross domestic product 
(``GDP'').\6\ That number rose to $23.1 trillion, or 96.5 percent of 
GDP, by the end of 2021.\7\
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    \5\ See IAWG Joint Staff Report, Recent Disruptions and 
Potential Reforms in the U.S. Treasury Market: A Staff Progress 
Report prepared by U.S. Department of the Treasury, Board of 
Governors of the Federal Reserve System, Federal Reserve Bank of New 
York, U.S. Securities and Exchange Commission, U.S. Commodity 
Futures Trading Commission (Nov. 8, 2021) (``2021 IAWG Joint Staff 
Report'').
    \6\ See id.
    \7\ See Monthly Statement of the Public Debt of the United 
States (Dec. 31, 2021), available at https://www.treasurydirect.gov/govt/reports/pd/mspd/2021/opds122021.pdf; see also U.S. Bureau of 
Economic Analysis, Gross Domestic Product (GDP), FRED, Fed. Res. 
Bank of St. Louis, available at https://fred.stlouisfed.org/series/GDP.
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    Second, a significant rise in electronic trading in the interdealer 
market \8\ for U.S. Treasury securities has contributed to a dramatic 
change in the overall structure of the market. In particular, 
technological advances have increasingly enabled certain market 
participants that are not registered as dealers to perform critical 
market functions, including liquidity provision, that once were 
primarily performed by regulated dealers.\9\ Since the mid-2000s, 
electronic trading has come to dominate the interdealer market for U.S. 
Treasury securities, gradually supplanting manual transactions made via 
the telephone.\10\ The proliferation of fully electronic trading venues 
has been accompanied by the rise of certain market participants who are 
not registered as dealers and who today account for a majority of 
trading in the Treasury interdealer market.\11\ In particular, PTFs--
businesses that often employ automated, algorithmic trading strategies 
(including passive market making, arbitrage, and structural and 
directional trading) \12\ that rely on speed, which allows them to 
quickly execute trades, or cancel or modify quotes in response to 
perceived market events \13\--account for about half of the daily 
volume in the interdealer market.\14\
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    \8\ The U.S. Treasury market is comprised of the cash market 
(purchases and sales of securities), the repo market, and the 
futures market. The U.S. Treasury cash market has been traditionally 
bifurcated between the interdealer market (whereby dealers trade 
with other dealers or with proprietary trading firms) and the 
dealer-to-customer market (whereby dealers trade with clients). 
Trading in electronic interdealer markets occurs anonymously on 
electronic trading platforms known as interdealer broker platforms 
(``IDBs''). Trading on the IDB platforms is similar to trading on 
other highly liquid markets and where certain market participants 
account for a significant trading volume. See Treasury Request for 
Comment at 3928. For purposes of this release, when discussing the 
U.S. Treasury market, we will be primarily focused on trading 
activities occurring in the interdealer market.
    \9\ 2021 IAWG Joint Staff Report at 5. A bank engaged in these 
activities would not register with the Commission as a dealer. See 
Exchange Act Section 3(a)(5)(C)(i)(II) (providing an exception from 
dealer status when a bank buys or sells exempted securities, which 
are defined in Exchange Act Section 3(a)(12)(A) to include 
government securities); see also Exchange Act Section 3(a)(6) 
(definition of ``bank''). As discussed infra note 41, a bank may 
nonetheless be a government securities dealer required to register 
under Section 15C. As such, it would not register with the 
Commission but instead would provide written notice of its 
government securities dealer status with the appropriate Federal 
banking regulator, and comply with rules adopted by the Treasury and 
the applicable Federal banking regulator.
    \10\ See Treasury Request for Comment. See also Group of Thirty 
Working Group on Treasury Market Liquidity, U.S. Treasury Markets: 
Steps toward Increased Resilience, Group of Thirty (2021) (``G30 
Report'') at https://group30.org/publications/detail/4950; 2021 IAWG 
Joint Staff Report at 5.
    \11\ See Michael J. Fleming, Bruce Mizrach, and Giang Nguyen, 
Federal Reserve Bank of New York Staff Reports, The Microstructure 
of a U.S. Treasury ECN: The BrokerTec Platform, Staff Report No. 381 
(July 2009, rev. May 2014); see also Treasury Request for Comment 
(``Trading on these platforms [in the Treasury cash market] has 
become increasingly automated, with transactions conducted using 
algorithmic and other trading strategies involving little or no 
human intervention . . . bear[ing] some resemblance to other highly 
liquid markets, including equities and foreign exchange markets, 
where PTFs and dealers transact in automated fashion, sometimes in 
large volumes and at high speed.''); FEDS Notes, ``Principal Trading 
Firm Activity in Treasury Cash Markets,'' James Collin Harkrader and 
Michael Puglia (Aug. 4, 2020); G30 Report at 1. The Commission 
separately has proposed, among other things, amendments to Exchange 
Act Rule 3b-16 to include within the definition of ``exchange'' 
systems that offer the use of non-firm trading interest and 
communication protocols to bring together buyers and sellers of 
securities. See Amendments regarding the Definition of ``Exchange'' 
and Alternative Trading Systems (ATSs) that Trade U.S. Treasury and 
Agency Securities, National Market System (NMS) Stocks, and Other 
Securities, Securities Exchange Act Release No. 94062 (Jan. 26, 
2022), 87 FR 15496 (Mar. 18, 2022) (``2022 ATS Proposing Release'').
    \12\ See Staff Report on Algorithmic Trading in U.S. Capital 
Markets As Required by Section 502 of the Economic Growth, 
Regulatory Relief, and Consumer Protection Act of 2018 (Aug. 5, 
2020) (``Algorithmic Trading Staff Report''), at pp. 39-41 
(``Passive market-making involves submitting non-marketable orders 
on both sides (buy or `bid,' and sell or `offer') of the 
marketplace''; ``structural strategies attempt to exploit structural 
vulnerabilities in the market or in certain market participants''; 
and ``directional strategies generally involve establishing a short-
term long or short position in anticipation of a price move up or 
down''); see also 2010 Equity Market Structure Concept Release.
    \13\ See 2022 ATS Proposing Release at 15597. See also 2015 
Joint Staff Report at 39; 2021 IAWG Joint Staff Report at 5 (``PTFs 
tend to make trading decisions primarily based on immediate 
profitability and the level of market risk'').
    \14\ Nellie Liang and Pat Parkinson, Hutchins Center Working 
Paper #72, Enhancing Liquidity of the U.S. Treasury Market Under 
Stress (Dec. 16, 2020) (``Enhancing Liquidity''), at 6.
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    These new market participants have established themselves as 
significant market intermediaries--and critical sources of liquidity--
in the U.S. Treasury market. For example, by 2014, unregistered market 
participants trading U.S. Treasury securities, including PTFs, 
accounted for a majority of trading activity in the electronic 
interdealer market.\15\ The 2015 Joint Staff Report on the U.S. 
Treasury market found that more than 50 percent of trading volume in 
benchmark U.S. Treasury securities on the major trading platforms is 
attributable to PTFs.\16\ In 2020, staff at the Board of Governors of 
the Federal Reserve published a paper estimating that PTFs account for 
61 percent of the trading activity on interdealer broker platforms.\17\ 
The significant presence of market participants that are not registered 
as dealers or government securities dealers in the U.S. Treasury 
market, the volume of their trading, the magnitude of their impact on 
the market, the regularity of their participation, and in many cases 
the nature of their electronic trading strategies have all contributed 
to the increasingly central role of these market participants as 
liquidity providers.\18\
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    \15\ See 2021 IAWG Joint Staff Report at 5.
    \16\ See 2015 Joint Staff Report at 21.
    \17\ FEDS Notes, ``Principal Trading Firm Activity in Treasury 
Cash Markets,'' James Collin Harkrader and Michael Puglia (Aug. 4, 
2020) (citing data presented at the 2019 U.S. Treasury Market 
Conference showing that PTFs averaged approximately 61 percent of 
total trading volume on electronic interdealer broker platforms).
    \18\ 2015 Joint Staff Report; Enhancing Liquidity at 6.
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    The rise of electronic trading has similarly impacted the market 
structure of the securities markets generally. In the equity markets, 
for example, trading in exchange-listed equities, once concentrated on 
exchange floors, now largely occurs in an electronic, highly 
decentralized but interconnected market that is accessed by brokers, 
dealers, and other market participants using a large number and great 
variety of trading venues.\19\ In the equity markets, too, 
technological advances have enabled significant market participants to 
take on an increasingly central role as liquidity providers, largely 
replacing more traditional types of traditional liquidity providers, 
such as exchange specialists on manual trading floors and over-the-
counter (``OTC'') market makers.\20\ Technological advancements

[[Page 23056]]

have prompted changes to trading practices, particularly with regard to 
the way in which orders are generated, routed, and executed. 
Developments in securities regulation also have contributed to the 
evolution of market structure and the rise of electronic trading.\21\ 
These technological and regulatory changes have resulted in the 
development of highly automated exchange systems and trading tools that 
have facilitated a business model for certain market participants, 
including PTFs, that perform functions similar to registered 
dealers.\22\
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    \19\ See 2010 Equity Market Structure Concept Release at 3594.
    \20\ See 2010 Equity Market Structure Concept Release at 3607 
(stating that liquidity providers historically have been viewed as 
dealers, and that ``[a]lthough [PTFs] that employ passive market 
making strategies are a new type of market participant, the 
liquidity providing function they perform is not new.'').
    \21\ In 2005, the Commission adopted 17 CFR 242.600 through 
242.614 (Regulation NMS), a series of initiatives designed to 
modernize and strengthen the national market system for equity 
securities through improved fairness in price execution, displaying 
of quotes, and access to market data. Exchange Act Release No. 51808 
(June 9, 2005), 70 FR 37495 (``Regulation NMS Release''). As these 
initiatives were implemented, regulations that had protected the 
manual quotes of floor exchanges from trade-throughs were rescinded. 
Id. In 2006, after decades of trading predominantly on the exchange 
floor, the New York Stock Exchange (``NYSE'') introduced a hybrid 
market structure that incorporated an ability to transact 
electronically. See 2010 Equity Market Structure Concept Release. 
Today, electronic trading dominates transactions in equity 
securities.
    \22\ A significant portion of trading activity in the equity 
markets--once estimated at 40-50 percent of the daily trading volume 
in exchange-listed equities--is conducted by PTFs. See High 
Frequency Trading and Networked Markets, Federico Musciotto, Jyrki 
Piilo, Rosario N. Mantegna (Mar. 5, 2021); SEC Staff of the Division 
of Trading and Markets, Equities Market Structure Literature Review 
Part II: High Frequency Trading (Mar. 18, 2014); Do High-Frequency 
Traders Anticipate Buying and Selling Pressure?, Nicholas H. 
Hirschey (Nov. 2013); High-Frequency Trading and Price Discovery, 
Jonathan Brogaard, Terrance Hendershott, Ryan Riordan (May 14, 
2014); High Frequency Trading: An Important Conversation, available 
at https://tabbforum.com/opinions/high-frequency-trading-an-important-conversation (Mar. 24, 2014) (illustrating the percentage 
of high frequency trading of U.S. equity shares traded from 2006 to 
2014 in Exhibit 1). See also Section V.B.2.
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    As discussed below, the Commission has long identified liquidity 
provision, including acting as a ``market maker'' or ``a de facto 
market maker whereby market professionals or the public look to the 
firm for liquidity,'' as a factor that indicates ``dealer'' status.\23\ 
Analysis indicates a number of market participants that, despite their 
significant share of market volume and their central role as liquidity 
providing intermediaries in the U.S. Treasury market, are not 
registered with the Commission either as ``government securities 
dealers'' under Section 15C of the Exchange Act or ``dealers'' under 
Section 15 of the Exchange Act.\24\ This has resulted in an uneven 
playing field in which some participants are subject to regulation (and 
its attendant costs and benefits), and some are not. This uneven 
application of regulatory oversight of significant liquidity providers 
makes it difficult for regulators and market observers to detect, 
investigate, understand, or address market events, such as the ``flash 
rally'' in October 2014.
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    \23\ Definition of Terms in and Specific Exemption for Banks, 
Savings Associations, and Savings Banks Under Sections 3(a)(4) and 
3(a)(5) of the Securities Exchange Act of 1934, Exchange Act Release 
No. 46745 (Oct. 30, 2002), 67 FR 67496, 67498-67500 (Nov. 5, 2002) 
(``2002 Release'') (stating that a person generally may satisfy the 
definition, and therefore, be acting as a dealer in the securities 
markets by conducting various activities, including ``acting as a 
market maker or specialist on an organized exchange or trading 
system'').
    \24\ See Section V.B.2.a, Table 1. Section 3(a)(5) of the 
Exchange Act defines the term ``dealer'' to mean ``any person 
engaged in the business of buying and selling securities . . . for 
such person's own account through a broker or otherwise,'' but 
excludes ``a person that buys or sells securities . . . for such 
person's own account, either individually or in a fiduciary 
capacity, but not as a part of a regular business.'' Similarly, 
Section 3(a)(44) of the Exchange Act, provides, in relevant part, 
that the term ``government securities dealer'' means ``any person 
engaged in the business of buying and selling government securities 
for his own account, through a broker or otherwise,'' but ``does not 
include any person insofar as he buys or sells such securities for 
his own account, either individually or in some fiduciary capacity, 
but not as part of a regular business.'' See Section II.A.
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    As discussed below, the regulatory regime applicable to dealers is 
a cornerstone of the U.S. Federal securities laws, and helps to promote 
the Commission's long-standing mission to protect investors, maintain 
fair, orderly, and efficient markets, and promote capital formation. As 
discussed in Sections II.D, and V.C, the registration of market 
participants who engage in significant dealer-like activities--but who 
are not currently registered as dealers--would provide regulators with 
a more comprehensive view of the markets through regulatory oversight, 
as well as enhance market stability through compliance with dealer 
regulations that are designed to support orderly markets, and protect 
investors by minimizing the impact of market participants' potential 
financial and operational risks.\25\ Accordingly, the Commission is 
taking steps to ensure that these market participants are registered 
and regulated,\26\ and is proposing for comment rules to further define 
the regulatory status of certain participants as ``dealers'' and 
``government securities dealers,'' within the meaning of Sections 
3(a)(5) and 3(a)(44) of the Exchange Act, respectively.\27\
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    \25\ Section V.C.2 describes the estimated costs associated with 
registering as a dealer or government securities dealer for those 
persons who meet the proposed standards.
    \26\ In addition, earlier this year, the Commission proposed to 
amend 17 CFR 242.300 through 242.304 (Regulation ATS) for 
alternative trading systems (``ATSs'') that trade government 
securities (as defined under Section 3(a)(42) of the Exchange Act) 
or repurchase and reverse repurchase agreements on government 
securities (``repos'') (such ATSs, together, ``Government Securities 
ATSs'') to: (1) Eliminate the current exemption from compliance with 
Regulation ATS for an ATS that limits its securities activities to 
government securities or repos, and registers as a broker-dealer or 
is a bank; (2) require the filing of public Form ATS-N for 
Government Securities ATSs, which would be subject to Commission 
review and ineffectiveness procedures, and would require a 
Government Securities ATS to disclose information about its manner 
of operations and the ATS-related activities of the registered 
broker-dealer or government securities broker or government 
securities dealer that operates the ATS and its affiliates; and (3) 
apply the fair access rule under 17 CFR 242.301(b)(5) (Rule 
301(b)(5) of Regulation ATS) to Government Securities ATSs that meet 
certain volume thresholds in U.S. Treasury Securities or in a debt 
security issued or guaranteed by a U.S. executive agency, or 
government-sponsored enterprise (``Agency Securities''). See 2022 
ATS Proposing Release. The 2022 ATS Proposing Release is also re-
proposing amendments to 12 CFR 242.1000 through 242.1007 (Regulation 
Systems Compliance and Integrity (``Regulation SCI'')) to apply it 
to Government Securities ATSs that meet certain volume thresholds in 
U.S. Treasury Securities or Agency Securities.
    \27\ We have consulted with the staff of the U.S. Department of 
the Treasury on this proposal.
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    Specifically, the Commission is proposing standards to identify 
those market participants that are providing an important liquidity 
provision function in today's securities markets. Any person \28\ that 
meets the activity-based standards identified in the Proposed Rules 
would be a dealer or government securities dealer required to register, 
absent an otherwise available and applicable statutory or regulatory 
exemption or exception (e.g., foreign broker-dealers exempted pursuant 
to 17 CFR 240.15a-6 (Exchange Act Rule 15a-6)).\29\
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    \28\ As discussed more fully below, the standards in the 
Proposed Rules do not apply to a person that has or controls total 
assets of less than $50 million, or an investment company registered 
under the Investment Company Act of 1940 (``Investment Company 
Act'') (such company a ``registered investment company''). See 
proposed Rule 3a5-4(a)(2) and proposed Rule 3a44-2(a)(3). Investment 
advisers are not required to aggregate accounts held in the name of 
clients of the adviser under certain circumstances as described in 
proposed Rule 3a5-4(b)(2)(ii) and proposed Rule 3a44-2(b)(2)(ii). 
See Section III.D.
    \29\ There is an analogous exemption under the Treasury rules 
for certain foreign government securities dealers. See 17 CFR 401.7 
(Treas. Reg. Sec.  401.7) (1987) (``Exemption for certain foreign 
government securities brokers or dealers.''). The Commission is not 
expressing any views concerning multilateral development banks, like 
the International Bank for Reconstruction and Development (or the 
World Bank) and the International Finance Corporation, or foreign 
sovereigns or foreign central banks, or any other sovereign or 
international bodies as to the immunities such entities may possess 
under U.S. or international law. See, e.g., Security-Based Swap 
Transactions Connected With a Non-U.S. Person's Dealing Activity 
That Are Arranged, Negotiated, or Executed by Personnel Located in a 
U.S. Branch or Office or in a U.S. Branch or Office of an Agent; 
Security-Based Swap Dealer De Minimis Exception, Exchange Act 
Release No. 77104 (Feb. 10, 2016), 81 FR 8598, available at https://www.govinfo.gov/content/pkg/FR-2016-02-19/pdf/2016-03178.pdf.

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    As the Proposed Rules focus on activity rather than label or 
status, they would potentially scope in other market participants as 
discussed below in Section V, thereby triggering a registration 
requirement and subjecting those entities to dealer regulation and 
oversight. As discussed further in Section V.B.2, the Commission's 
analysis indicates that the Proposed Rules would primarily require 
registration by PTFs, and potentially some private funds.\30\ In 
addition, it is possible that the activities of some investment 
advisers \31\ could meet the Proposed Rules \32\ and trigger a dealer 
registration requirement. The Commission believes the scope of the 
Proposed Rules is appropriate in light of the important liquidity that 
these participants provide to the securities markets, which is similar 
to that historically provided by regulated dealers.
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    \30\ A private fund, including a hedge fund, is an issuer that 
would be an investment company as defined in Section 3 of the 
Investment Company Act if not for Section 3(c)(1) or 3(c)(7) of the 
Investment Company Act. See 15 U.S.C. 80a-3.
    \31\ ``Investment adviser'' is defined under the Investment 
Advisers Act of 1940 (``Advisers Act'') as ``any person who, for 
compensation, engages in the business of advising others, either 
directly or through publications or writings, as to the value of 
securities or as to the advisability of investing in, purchasing, or 
selling securities, or who, for compensation and as part of a 
regular business, issues or promulgates analyses or reports 
concerning securities.'' See 15 U.S.C. 80b-2(a)(11).
    \32\ See Section III.D.
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    The Commission is proposing to exclude certain smaller 
participants, as well as registered investment companies, from the 
ambit of the Proposed Rules. As discussed in Section III.A and V.B, 
these smaller participants--persons that have or control less than $50 
million in total assets--are unlikely to be able to engage in the 
significant liquidity provision that is the focus of the Proposed 
Rules. As discussed below in Section III.A, in light of the regulatory 
structure that governs registered investment companies, which 
addresses, among other things, the types of concerns that we seek to 
address in the Proposed Rules, the Commission is proposing to exclude 
registered investment companies from the Proposed Rules.\33\
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    \33\ As discussed in Section III.D, for purposes of the 
definition of ``own account,'' an account held in the name of a 
person that is a registered investment company would not be 
attributed to a controlling person or another person under common 
control.
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    Conversely, the Proposed Rules would not exclude private funds 
because we are proposing to take a similar approach to regulating 
dealer activity across market participants and, unlike registered 
investment companies, private funds are not subject to the regulatory 
framework of the Investment Company Act. The Commission currently 
receives information about the operations, exposures, liabilities, 
liquidity, and strategies of private funds through filings of Form PF 
by registered private fund advisers and has recently proposed 
amendments to Form PF to enhance the reporting about private funds.\34\ 
If excluded from the Proposed Rules, however, private funds engaged in 
dealer activity would not be subject to the dealer regulatory regime, 
which includes not only registration obligations, but also 
comprehensive regulatory requirements and oversight that broadly focus 
on market functionality--that is, the impact of dealing activity on the 
market as a whole.
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    \34\ See Amendments to Form PF to Require Current Reporting and 
Amend Reporting Requirements for Large Private Equity Advisers and 
Large Liquidity Fund Advisers, Investment Advisers Act Release No. 
5950 (Jan. 26. 2022), 87 FR 9106 (Feb. 17, 2022) (``Form PF 
Proposing Release'').
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    The Proposed Rules also would not exclude investment advisers 
registered under the Advisers Act (``registered investment advisers''). 
A registered investment adviser trading for its own proprietary 
account, for example, could trigger the dealer registration 
requirements under the Proposed Rules. And, under certain 
circumstances, a registered investment adviser could trigger 
application of the Proposed Rules because of aggregating trading in its 
own account with client accounts it controls. However, as described 
below in Section III.D, in determining whether its activity would be 
captured by the Proposed Rules, a registered investment adviser would 
not be required to aggregate its own trading activities with the 
trading activities of its clients' solely based on an adviser-client 
discretionary investment management relationship.\35\ This exclusion is 
designed to attribute the dealer activity to the appropriate market 
actor.
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    \35\ Paragraph (b)(2)(ii)(B) of the Proposed Rules would not 
attribute to a registered investment adviser an account held in the 
name of a client of the registered investment adviser, unless the 
adviser controls the client as a result of the adviser's right to 
vote or direct the vote of voting securities of the client, the 
adviser's right to sell or direct the sale of voting securities of 
the client, or the adviser's capital contributions to or rights to 
amounts upon dissolution of the client.
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II. Background

    The Federal securities laws provide a comprehensive system of 
regulation of securities activities, and the definition of dealer is 
one of the Exchange Act's most important definitions. As discussed 
below, the statutory definition of ``dealer'' in Section 3(a)(4) and 
the accompanying registration requirements of the Exchange Act were 
drawn broadly by Congress in 1934 to encompass a wide range of 
activities involving the securities markets and their participants.\36\ 
Registered dealers and government securities dealers are subject to a 
panoply of regulatory obligations and supervisory oversight intended to 
protect investors and the securities markets. Therefore, it is 
important that market participants whose securities activities fall 
within the broad definitions of ``dealer'' and ``government securities 
dealer'' are registered and regulated under the Exchange Act.
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    \36\ Proposed Rule 3a5-4 would apply to securities as defined by 
Section 3(a)(10) of the Exchange Act, and proposed Rule 3a44-2 would 
apply to government securities as defined by Section 3(a)(42) of the 
Exchange Act, including any digital asset that is a security or a 
government security within the meaning of the Exchange Act.
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A. Definitions of ``Dealer'' and ``Government Securities Dealer''

    Section 3(a)(5) of the Exchange Act defines the term ``dealer'' to 
mean ``any person \37\ engaged in the business of buying and selling 
securities . . . for such person's own account through a broker or 
otherwise,'' but excludes ``a person that buys or sells securities . . 
. for such person's own account, either individually or in a fiduciary 
capacity, but not as a part of a regular business.'' \38\ This 
statutory exclusion from the definition of ``dealer'' is often referred 
to as the ``trader'' exception.\39\

[[Page 23058]]

As one commentator has described it, at the core of the ``dealer/
trader'' distinction is an attempt to draw a line between a dealer and 
``an ordinary investor who buys and sells for his own account with some 
frequency.'' \40\ Read together, these provisions identify as a 
``dealer'' a person engaged in the business of buying and selling 
securities for its own account as part of a regular business. Absent an 
exception or an exemption, Section 15(a)(1) of the Exchange Act makes 
it unlawful for a ``dealer'' to effect any transactions in, or to 
induce or attempt to induce the purchase or sale of, any security 
unless registered with the Commission in accordance with Section 15(b) 
of the Exchange Act.
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    \37\ Paragraph (b)(1) of the Proposed Rules provides that the 
term ``person'' has the same meaning as prescribed in Section 
3(a)(9) of the Exchange Act. Section 3(a)(9) of the Exchange Act 
defines a ``person'' as ``a natural person, company, government, or 
political subdivision, agency, or instrumentality of a government.'' 
See 15 U.S.C. 78c(a)(9).
    \38\ See Sections 3(a)(5)(A) and (B) of the Exchange Act, 15 
U.S.C. 78c(a)(5)(A) and (B). The definition of ``dealer'' in the 
Exchange Act is largely unchanged from its enactment in 1934. Until 
the Gramm-Leach-Bliley Act (``GLBA'') was enacted in 1999, banks 
were excluded from the definition of ``dealer.'' The GLBA added 
Section 3(a)(5)(C) of the Exchange Act to create a series of 
functional exemptions from the statutory definition of dealer. The 
Dodd-Frank Wall Street Reform and Consumer Protection Act of 2010 
(``Dodd-Frank Act'') further amended Section 3(a)(5)(A) of the 
Exchange Act to exclude from the dealer definition persons engaged 
in the business of buying and selling security-based swaps, other 
than security-based swaps with or for persons that are not eligible 
contract participants.
    \39\ See, e.g., 2002 Release (explaining that ``a person that is 
buying securities for its own account may still not be a `dealer' 
because it is not `engaged in the business' of buying and selling 
securities for its own account as part of a regular business,'' and 
that ``[t]his exclusion is often referred to as the dealer/trader 
distinction'').
    \40\ See Loss, Securities Regulation 722 (1st ed. 1951) (``One 
aspect of the `business' concept is the matter of drawing the line 
between a `dealer' and a trader--an ordinary investor who buys and 
sells for his own account with some frequency.''), cited in Further 
Definition of ``Swap Dealer,'' ``Security-Based Swap Dealer,'' 
``Major Swap Participant,'' ``Major Security-Based Swap 
Participant'' and ``Eligible Contract Participant,'' Exchange Act 
Release No. 66868 (Apr. 27, 2012), 77 FR 30596 n.250 (May 23, 2012) 
(``Entities Adopting Release'').
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    Similarly, Section 3(a)(44) of the Exchange Act provides, in 
relevant part, that the term ``government securities dealer'' means 
``any person engaged in the business of buying and selling government 
securities for his own account, through a broker or otherwise,'' but 
``does not include any person insofar as he buys or sells such 
securities for his own account, either individually or in some 
fiduciary capacity, but not as part of a regular business.'' \41\ Read 
together, these provisions identify as a ``government securities 
dealer'' a person engaged in the business of buying and selling 
government securities for its own account as part of a regular 
business.\42\ Section 15C of the Exchange Act makes it unlawful for a 
``government securities dealer'' (other than a registered broker-dealer 
or financial institution) to induce or attempt to induce the purchase 
or sale of any government security unless such government securities 
dealer is registered in accordance with Section 15C(a)(2).\43\
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    \41\ 15 U.S.C. 78c(a)(44). Congress added the definition of 
``government securities dealer'' to the Exchange Act in the 
Government Securities Act of 1986. Public Law 99-571, 100 Stat. 3208 
(Oct. 28, 1986). To the extent a financial institution is a 
government securities dealer required to register under Section 15C, 
it would not register with the Commission but instead would provide 
written notice of its government securities dealer status with the 
appropriate Federal banking regulator, and comply with rules adopted 
by the Treasury and the applicable Federal banking regulator. See 
Regulations under Section 15C of the Securities Exchange Act of 
1934, 17 CFR 400.1(b), available at CFR-2018-title17-vol4-chapIV.pdf 
(treasurydirect.gov) (the ``Treasury Rules''). The Treasury Rules 
address financial responsibility, protecting customer securities and 
funds, recordkeeping, large position reporting, and financial 
reporting and audits. Also included are rules concerning custodial 
holdings of government securities by depository institutions. The 
Commission retains broad antifraud authority over banks that are 
government securities dealers. Soon after enactment of the 
Government Securities Act of 1986, the staff issued a series of no-
action letters to persons seeking assurances that the staff would 
not recommend enforcement action if they did not register as 
government securities dealers. See, e.g., Bankers Guarantee Title & 
Trust Co., SEC No-Action Letter (Jan. 22, 1991); Bank of America, 
Canada, SEC No-Action Letter (May 1, 1988); Citicorp Homeowners, 
Inc., SEC No-Action Letter (Oct. 7, 1987); Fairfield Trading Corp., 
SEC No-Action Letter (Dec. 10, 1987); Continental Grain Co., SEC No-
Action Letter (Nov. 28, 1987); Louis Dreyfus Corp., SEC No-Action 
Letter (July 23, 1987); United Savings Association of Texas, SEC No-
Action Letter (Apr. 2, 1987). Staff no-action letters, like all 
staff statements, have no legal force or effect: They do not alter 
or amend applicable law, and they create no new or additional 
obligations for any person. Upon the adoption of any final rule, 
some letters and other staff statements, or portions thereof, may be 
moot, superseded, or otherwise inconsistent with the final rules 
and, therefore, would be withdrawn or modified.
    \42\ The legislative history relating to the enactment of the 
Government Securities Act of 1986 provides that the term government 
securities dealer ``would utilize key concepts from the current 
definitions of . . . `dealer' and `municipal securities dealer.' '' 
H.R. Rep. No. 258, 99th Cong., 1st Sess. 24 (1985). S. Rep. No. 426, 
99th Cong., 2d Sess. 19 (1986).
    \43\ A government securities dealer that is a registered dealer 
or a financial institution must file notice with the appropriate 
regulatory agency that it is a government securities dealer. See 15 
U.S.C. 78o-5(a). Exchange Act Section 3(a)(46) defines the term 
``financial institution'' to include: (i) A bank (as that term is 
defined in Exchange Act Section 3(a)(6) (15 U.S.C. 38c(a)(6)); (ii) 
a foreign bank (as that term is used in the International Banking 
Act of 1978); and (iii) a savings association (as defined in section 
3(b) of the Federal Deposit Insurance Act, the deposits of which are 
insured by the Federal Deposit Insurance Corporation). See 15 U.S.C. 
78c(a)(46)(A) through(C).
---------------------------------------------------------------------------

    Under both the dealer and government securities dealer definitions, 
a person acts as a dealer or a government securities dealer when it is 
engaged in the business of buying and selling securities or government 
securities, respectively, for its own account as part of a ``regular 
business.'' \44\
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    \44\ Unless otherwise indicated, references to ``dealer'' 
activity apply both with respect to ``dealers'' and ``government 
securities dealers'' under Sections 3(a)(5) and 3(a)(44) of the 
Exchange Act, respectively.
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Factors Considered in Evaluating ``Regular Business''
    Because the Exchange Act does not define what it means to be 
engaged in a ``regular business,'' courts and the Commission have 
looked to an array of factors in determining whether someone is a 
``dealer'' within the meaning of the statute.\45\ In determining 
whether a person is engaged in the business of buying and selling 
securities for its own account as part of a ``regular business,'' 
courts and the Commission assess the frequency with which the person 
buys and sells securities for its own account.\46\ The ``regularity'' 
of participation in securities transactions necessary to find that a 
person is a ``dealer'' has not been quantified, but involves engaging 
in ``more than a few isolated'' securities transactions.\47\
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    \45\ See, e.g., Registration Requirements for Foreign Broker-
Dealers, Exchange Act Release No. 27017 (July 11, 1989), 54 FR 
30013, 30015 (July 18, 1989) (stating that the definition of 
``dealer'' and the registration requirements under the Exchange Act 
``were broadly drawn by Congress to encompass a wide range of 
activities involving investors and the securities markets''). 
Recognizing that the word ``business'' is central to the dealer 
definition, courts have cited to Black's Law Dictionary definition 
of business: ``a commercial enterprise carried on for profit, a 
particular occupation or employment habitually engaged in for 
livelihood or gain.'' SEC v. Justin W. Keener d/b/a JMJ Financial, 
No. 20-cv-21254, pp. 14-15 (S.D. Fla. Jan. 21, 2022) (citing SEC v. 
Big Apple Consulting USA, Inc., 783 F.3d 786, 809 (11th Cir. 2015) 
which was quoting Black's Law Dictionary 239 (10th ed. 2009)) 
(emphasis in original). The Eleventh Circuit elaborated that 
``[c]entral to this definition is profit or gain.'' Id. (emphasis in 
original). See also SEC v. Ibrahim Almagarby, 479 F. Supp. 3d 1266, 
1272 (S.D. Fla. 2020).
    \46\ See Massachusetts Financial Services, Inc. v. Securities 
Investor Protection Corp., 411 F. Supp. 411, 415 (D. Mass.), aff'd, 
545 F.2d 754 (1st Cir. 1976), cert. denied, 431 U.S. 904 (1977) 
(noting that the dealer definition: ``connote[s] a certain 
regularity of participation in securities transactions at key points 
in the chain of distribution.''); see also Eastside Church of Christ 
v. National Plan, Inc., 391 F.2d at 361-362 (an entity that 
purchased many securities for its own account as part of its regular 
business and sold some of them was deemed a dealer); SEC v. Century 
Inv. Transfer Corp., 1971 U.S. Dist. LEXIS 11364, at *14 (S.D.N.Y. 
Oct. 5, 1971) (a limited partnership that bought and sold securities 
for its own account on numerous occasions was deemed a dealer); SEC 
v. Corporate Rels. Group, Inc., 2003 U.S. Dist. LEXIS 24925, at *60-
61 (M.D. Fla. Mar. 28, 2003) (an unregistered stock promotion 
company that was operating as a broker was also operating as a 
dealer because it bought securities on more than a dozen occasions 
and sold those securities in hundreds of transactions through 
accounts it maintained or in which it had an interest).
    \47\ See SEC v. Am. Inst. Counselors, Inc., Fed. Sec. L. Rep. 
(CCH) ] 95388 (D.D.C. 1975) (citing Loss, Securities Regulation (2d 
ed. 1961)).
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    In addition to frequency of activity, the nature of the trading 
activity is a factor in determining whether a person is a dealer.\48\ 
Over time, the Commission has identified activities that, in context 
and when engaged in with regularity, may be indicative of being a 
dealer.\49\ For example, the Commission has identified certain factors 
that would be indicators of dealer activity, including,

[[Page 23059]]

among other things: (1) Acting as a market maker or specialist on an 
organized exchange or trading system; (2) acting as a de facto market 
maker or liquidity provider; \50\ and (3) holding oneself out as buying 
or selling securities at a regular place of business.\51\
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    \48\ See 2002 Release at 67498.
    \49\ See Entities Adopting Release, 77 FR 30617 (discussing 
application of the dealer/trader distinction in the context of 
security-based swap dealers); see also 2002 Release at 67499.
    \50\ For example, a person may be acting as a dealer if they 
``turned a profit not from selling only after market prices 
increased (like a trader), but rather from quickly reselling at a 
marked-up price.'' River North, 415 F. Supp. 3d at 859; see also SEC 
v. Big Apple Consulting USA, Inc., 783 F.3d 786, 809-10 (11th Cir. 
2015); In re Sodorff, 50 SEC. 1249, 1992 WL 224082, at *5 (Sep. 2, 
1992).
    \51\ See 2002 Release. These factors were confirmed by the 
Commission in 2012 when it defined certain terms, including 
``security-based swap dealer,'' in accordance with Title VII of the 
Dodd-Frank Act. See Entities Adopting Release at 30607 
(distinguishing traders from dealers by noting that a trader, among 
other things, does not make a market). These indicia have been 
developed in a range of contexts over time as the markets and dealer 
activity have evolved, and do not represent an exclusive or 
exhaustive list of activities relevant for determining whether 
registration as a dealer is required. Further, a person not meeting 
the standards in the Proposed Rules may still be a dealer under 
otherwise applicable dealer precedent. Whether or not a person is a 
``dealer'' is based on the facts and circumstances, where various 
factors are ``neither exclusive, nor function as a checklist,'' and 
meeting any one factor may be sufficient to establish dealer status. 
SEC v. River North Equity LLC, 415 F. Supp. 3d 853, 858 (N.D. Ill. 
2019); accord SEC v. Fierro, No. 20-cv-2104, 2020 WL 7481773, at *3 
(D.N.J. Dec. 18, 2020); SEC v. Keener, No. 20-cv-21254, 2020 WL 
4736205, at *3-*4 (S.D. Fla. Aug. 14, 2020); SEC v. Almagarby, 479 
F. Supp. 3d 1266, 1272-73 (S.D. Fla. 2020); SEC v. Benger, 697 F. 
Supp. 2d 932, 945 (N.D. Ill. 2010).
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Trader Exclusion
    The Exchange Act excludes from the definition of dealer any 
``person that buys or sells securities . . . for such person's own 
account, either individually or in a fiduciary capacity, but not as a 
part of a regular business.'' \52\ While traders and dealers engage in 
the same core activity--buying and selling securities for their own 
account--their level of activity varies in absolute terms and in 
regularity.\53\ The Commission has stated that dealers include those 
who are willing to buy and sell contemporaneously and often quickly 
enter into offsetting transactions to minimize the risk associated with 
a position.\54\ In contrast, traders are ``market participants who 
provide capital investment and are willing to accept the risk of 
ownership in listed companies for an extended period of time,'' and the 
Commission has stated that ``it makes little sense to refer to someone 
as `investing' in a company for a few seconds, minutes, or hours.'' 
\55\ The purpose of the ``trader'' exception is to ``exclude from the 
definition of `dealer' members of the public who buy and sell 
securities for their own account as ordinary traders.'' \56\
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    \52\ Sections 3(a)(5)(B) and 3(a)(44)(A) of the Exchange Act.
    \53\ See Loss, supra note 40, at 720 (noting that the 
distinction between a trader and a dealer seeks to separate the 
``ordinary investor who buys and sells for his own account with some 
frequency'' by establishing that dealers engage in the business of 
buying and selling securities as part of a regular business).
    \54\ 2002 Release.
    \55\ 2010 Equity Market Structure Concept Release at 3603, n. 52 
(citing Regulation NMS Release, 70 FR 37500).
    \56\ See SEC v. Am. Inst. Counselors, Inc., Fed. Sec. L. Rep. 
(CCH) ] 95,388 (D.D.C. 1975) (citing Loss, Securities Regulation (2d 
ed. 1961)). See also 2002 Release (``[A] person that is buying 
securities for its own account may still not be a `dealer' because 
it is not `engaged in the business' of buying and selling securities 
for its own account as part of a regular business''); River North, 
415 F. Supp. at 859 (traders purchase securities already in the 
marketplace and turn a profit from selling them after they 
appreciate in value); Sodorff, 1992 WL 224082, at *5 (same).
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B. 2010 Equity Market Structure Concept Release

    The Commission raised the issue of broker-dealer registration for 
PTFs in its 2010 Equity Market Structure Concept Release.\57\ 
Specifically, as part of its discussion relating to the potential risks 
to the markets posed by PTFs, the Commission requested comment on 
whether all PTFs should be required to register as broker-dealers.\58\ 
Comments were mixed.\59\ A number of commenters explicitly supported 
registration as an effective means for providing oversight of trading 
activity.\60\ Others commenters opposed registration, citing costs, 
burdens, and barriers to competition.\61\
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    \57\ See 2010 Equity Market Structure Concept Release at 3612.
    \58\ Id.
    \59\ See Letter from Donald R. Wilson, Jr., DRW Trading, LLC 
(Apr. 21, 2010); Letter from Peter Kovac, Chief Operating Officer 
and Financial and Operations Principal, EWT (Feb. 22, 2010); Letter 
from Senator Edward Kaufman (Aug. 5, 2010); Article from Stephen M. 
Barnes, J.D., Regulating High-Frequency Trading: An Examination of 
U.S. Equity Market Structure in Light of the May 6, 2010 Flash Crash 
(Dec. 2010); Letter from R.T. Leuchtkafer (Apr. 16, 2010); Letter 
from R.T. Leuchtkafer (July 15, 2010); Letter from Micah Hauptman, 
Financial Services Counsel, Consumer Federation of America (Sept. 9, 
2014); Letter from Berkowitz, Trager & Trager, LLC (Apr. 21, 2010); 
Letter from Alston Trading, LLC, RGM Advisors, LLC, Hudson River 
Trading, LLC, and Quantlab Financial, LLC (Apr. 23, 2010); Letter 
from Marcia E. Asquith, Senior Vice President and Corporate 
Secretary, Financial Industry Regulatory Authority (Apr. 23, 2010); 
Letter from James J. Angel, Associate Professor, McDonough School of 
Business, Georgetown University, Lawrence E. Harris, Fred V. Keenan 
Chair in Finance, Professor of Finance and Business Economics, 
Marshall School of Business, University of Southern California, and 
Chester S. Spatt, Pamela R. and Kenneth B. Dunn Professor of 
Finance, Director, Center for Financial Markets, Tepper School of 
Business, Carnegie Mellon University, Equity Trading in the 21st 
Century (Feb. 23, 2010); and Letter from Kurt N. Schacht, Managing 
Director and Linda L. Rittenhouse, Director, Capital Markets Policy, 
CFA Institute (June 22, 2010).
    \60\ See Letter from Peter Kovac, Chief Operating Officer and 
Financial and Operations Principal, EWT (Feb. 22, 2010); Letter from 
Senator Edward Kaufman (Aug. 5, 2010); Article from Stephen M. 
Barnes, J.D., Regulating High-Frequency Trading: An Examination of 
U.S. Equity Market Structure in Light of the May 6, 2010 Flash Crash 
(Dec. 2010); Letter from R.T. Leuchtkafer (Apr. 16, 2010); Letter 
from R.T. Leuchtkafer (July 15, 2010); Letter from Micah Hauptman, 
Financial Services Counsel, Consumer Federation of America (Sept. 9, 
2014). See also Letter from Donald R. Wilson, Jr., DRW Trading, LLC 
(Apr. 21, 2010), pp 3-4 (supporting registration only for those 
firms that engage in high-volume and high-speed trading).
    \61\ See Letter from Berkowitz, Trager & Trager, LLC (Apr. 21, 
2010); Letter from Alston Trading, LLC, RGM Advisors, LLC, Hudson 
River Trading, LLC, and Quantlab Financial, LLC (Apr. 23, 2010).
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C. Department of the Treasury Request for Comment

    In 2016, Treasury published notice seeking public comment on the 
evolution of the U.S. Treasury market structure and the implications 
for market functions, trading and risk management practices across the 
U.S. Treasury market, considerations with respect to more comprehensive 
official sector access to U.S. Treasury market data, and the benefits 
and risks of increased public disclosure of U.S. Treasury market 
activity.\62\ In that Request for Comment, Treasury raised the issue of 
registration for certain market participants, including those persons 
engaging in automated trading or conducting a certain volume of 
trading.\63\ Specifically, concerning its continued monitoring of 
trading and risk management practices across the U.S. Treasury market 
and reviewing regulatory requirements applicable to the government 
securities market and its participants, Treasury requested comment on: 
(1) Aligning standards between U.S. securities, commodities, and 
derivatives markets and the U.S. Treasury cash market; (2) the 
implications of a registration requirement for certain market 
participants, including those persons engaging in automated trading or 
conducting a certain volume of trading; and (3) whether such firms 
should be subject to capital requirements, examinations and 
supervision, conduct rules, and/or other standards.\64\ A number of 
comment letters were submitted directly or indirectly responding to 
these questions.\65\ Most

[[Page 23060]]

commenters explicitly supported consistent regulatory standards to be 
applied to certain market participants, including those persons 
engaging in automated trading or conducting a certain volume of 
trading,\66\ with some commenters explicitly supporting the 
registration of market participants that are not currently registered 
as dealers.\67\ One commenter was opposed to the registration of 
certain market participants citing disapproval of the ``application of 
arbitrary thresholds when determining the applicability of 
regulation.'' \68\ Another commenter stated that ``principal trading 
firms have played an increasingly larger role in offering liquidity in 
these markets, and have become de facto market makers.'' \69\
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    \62\ See Treasury Request for Comment.
    \63\ See Treasury Request for Comment at 3930.
    \64\ See Treasury Request for Comment at 3931 (Questions 2.6, 
2.6(a) and 2.6(b)).
    \65\ See Letter from Deirdre K. Dunn, Managing Director--Head of 
NA G10 Rates, Citi Global Markets (Apr. 22, 2016) (``Citi Global''); 
Letter from Shane O'Cuinn, Managing Director, Credit Suisse/Global 
Markets (Apr. 22, 2016) (``Credit Suisse''); Letter from Joanna 
Mallers, Secretary, FIA Principal Traders Group (Apr. 22, 2016) 
(``FIA PTG''); Comment from Kermit Kubitz (Apr. 22, 2016); Letter 
from William Harts, Modern Market Initiative (Apr. 22, 2016) 
(``MMI''); Letter from Prudential Fixed Income (Apr. 21, 2016) 
(``Prudential''); Letter from Alan Mittleman, Managing Director, 
Head of USD Rates Trading, RBS Securities Inc. (Apr. 22, 2016) 
(``RBS Securities''); Letter from Reserve Bank of India (Apr. 22, 
2016); Letter from Mike Zolik, Nate Kalich, and Larry Magargal, 
Ronin Capital, LLC (Mar. 19, 2016) (``Ronin Capital''); Letter from 
Timothy W. Cameron, Esq., Asset Management Group--Head and Lindsey 
Weber Keljo, Vice President and Assistant General Counsel, Asset 
Management Group, Securities Industry and Financial Markets 
Association (Apr. 22, 2016) (``SIFMA-AMG''); Letter from Greg Moore, 
Managing Director and Head of FICM New York, TD Securities (USA) LLC 
(Apr. 22, 2016) (``TD Securities''); and Letter from C. Thomas 
Richardson, Managing Director, Head of Market Structure, Head of 
Electronic Trading Services, and Cronin McTigue, Managing Director, 
Head of Liquid Products, Wells Fargo Securities (Apr. 21, 2016) 
(``Wells Fargo'').
    \66\ See Letter from Citi Global; Letter from Credit Suisse; 
Comment from Kermit Kubitz; Letter from MMI; Letter from Prudential; 
Letter from RBS Securities; Letter from Reserve Bank of India; 
Letter from Ronin Capital; Letter from SIFMA-AMG; Letter from TD 
Securities; and Letter from Wells Fargo.
    \67\ See Letter from Prudential; Letter from MMI; Letter from TD 
Securities; Letter from Reserve Bank of India; Letter Citi Global; 
and Letter from Ronin Capital.
    \68\ See Letter from FIA PTG.
    \69\ See Letter from Stuart Kaswell, Executive Vice President 
and Managing Director, General Counsel, and Ji[rcaron][iacute] 
Kr[oacute]l, Deputy CEO, Global Head of Government Affairs, 
Alternative Investment Management Association (Apr. 22, 2016) at 2 
(describing the evolution of market structure generally).
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D. Need for Commission Action

    While the participation of these PTFs and other significant market 
participants that are not registered as dealers may have positive 
effects, such as through increased competition, there are risks that 
accompany such market participants' trading activities and the 
accompanying lack of regulatory obligations or oversight relating to 
such activity.\70\ Among other things, scrutiny of the U.S. Treasury 
market, in light of recent market disruptions,\71\ has identified a 
regulatory gap in terms of the registration status and regulation of 
significant market participants in the U.S. Treasury market. Not only 
does such a regulatory gap mean inconsistent oversight of market 
participants performing similar functions either in the same market or 
across asset classes but, as described below, the activity of 
significant market participants that are not registered may pose 
certain risks to the markets.
---------------------------------------------------------------------------

    \70\ See Section V for discussion of competition; see also 
Algorithmic Trading Staff Report.
    \71\ See 2021 IAWG Report.
---------------------------------------------------------------------------

    In particular, certain market participants, such as PTFs that are 
not registered as dealers, play an increasingly significant role as 
major liquidity providers across asset classes in the U.S. securities 
markets, including the U.S. Treasury market. These market participants 
engage in a significant volume of trading across many trading platforms 
for their own accounts, generally ending the day with a relatively 
small position. In the U.S. Treasury market, in particular, market 
commenters and financial regulators have stated that the rise of 
electronic trading and emergence of unregulated significant market 
participants over the years could be a contributing factor to the more 
frequent market disruptions, specifically stating that these changes 
are directly affecting liquidity provision.\72\
---------------------------------------------------------------------------

    \72\ See 2021 IAWG Joint Staff Report (stating that the October 
15, 2014 market disruption made clear that, among other things, 
``electronic trading permitted rapid increases in orders that 
removed liquidity'') at 18, and G30 Report.
---------------------------------------------------------------------------

    The Commission believes that, although the Proposed Rules will not 
by themselves necessarily prevent future market disruptions, the 
operation of the rules will support transparency; market integrity and 
resiliency; and investor protection; across the U.S. Treasury and other 
securities markets by closing the regulatory gap that currently exists 
and ensuring consistent regulatory oversight of persons engaging in the 
type of activities described in the Proposed Rules.\73\ The requirement 
that dealers register has been repeatedly recognized as being ``of the 
utmost importance in effecting the purposes of the [Exchange] Act. It 
is through the registration requirement that some discipline may be 
exercised over those who may engage in the securities business and by 
which necessary standards may be established with respect to training, 
experience, and records.'' \74\ For example, as described below in 
Section V.C, dealers and government securities dealers must register 
with the Commission and become members of a self-regulatory 
organization (``SRO''); \75\ comply with Commission and SRO rules, 
including certain financial responsibility and risk management 
rules,\76\ transaction and

[[Page 23061]]

other reporting requirements,\77\ operational integrity rules,\78\ and 
books and records requirements,\79\ all of which help to enhance market 
stability by giving regulators increased insight into firm-level and 
aggregate trading activity and so help regulators to evaluate, assess, 
and address, as appropriate, market risks. In addition, registered 
dealers and government securities dealers are required to comply with 
specific anti-manipulative and other anti-fraud rules that are 
promulgated pursuant to Section 15(c) of the Exchange Act, thereby 
contributing to fair and orderly markets.\80\ Firms that are government 
securities dealers (including registered broker-dealers trading 
government securities) must also comply with rules adopted by Treasury, 
including but not limited to rules relating to financial 
responsibility, recordkeeping, financial condition reporting, risk 
oversight, and large trader reporting.\81\ Importantly, dealers and 
government securities dealers are subject to Commission and SRO 
examination, inspection, and enforcement for compliance with applicable 
Federal securities laws and SRO rules.\82\
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    \73\ See Section V.
    \74\ River North, 415 F. Supp. 3d 853, 858 (citing Benger, 697 
F. Supp. 2d at 944 (quoting Celsion Corp. v. Stearns Mgmt. Corp., 
157 F. Supp. 2d 942, 947 (N.D. Ill. 2001)); see also Roth v. SEC, 22 
F.3d 1108, 1109 (D.C. Cir. 1994) (``The broker-dealer registration 
requirement serves as the keystone of the entire system of broker-
dealer regulation.''); see Section 15(b)(7) of the Exchange Act, 15 
U.S.C. 78o(b)(7), and 17 CFR 240.15b7-1 (Rule 15b7-1 thereunder) 
(requiring natural persons associated with a broker-dealer to be 
registered or approved ``in accordance with the standards of 
training, experience, competence, and other qualification 
standards''); see also Financial Industry Regulatory Authority 
(``FINRA'') Rule 1210 (Registration Requirements) and FINRA Rule 
1220 (Registration Categories), which require, for example, an 
associated person of a member broker-dealer of FINRA who is 
primarily responsible for the design, development, or significant 
modification of an algorithmic trading strategy, or who is 
responsible for supervising or directing such activities, to pass 
the Series 57 exam, register as a Securities Trader, and comply with 
continuing education requirements.
    \75\ See Sections 15(b)(8), 15C(e)(1), and 17(b) of the Exchange 
Act, 15 U.S.C. 78o(b)(8), 15 U.S.C. 78o-5(e)(1), and 15 U.S.C. 
78q(b), respectively. Section 15(b)(8) of the Exchange Act makes it 
unlawful for any registered broker or dealer to effect any 
transaction in securities (with certain exceptions) unless the 
broker or dealer is a member of a registered securities association 
or effects transactions in securities solely on a national 
securities exchange of which it is a member. Section 15C(e)(1) of 
the Exchange Act requires that a registered government securities 
broker-dealer, other than certain financial institutions, become a 
member of a registered national securities exchange or registered 
national securities association. Because government securities are 
not traded on registered national securities exchanges, a person 
that registers as a government securities dealer under Section 15C 
to trade only government securities would need to become a member of 
a registered national securities association (FINRA is the only 
registered national securities association). Currently, however, a 
person that is engaged in a regular business of buying and selling 
both government securities and other securities for its own account, 
and therefore registers as a dealer under Section 15, could 
potentially be exempt from Section 15(b)(8)'s national securities 
association membership requirement if it is or becomes a member of a 
national securities exchange and satisfies other requirements. See 
17 CFR 240.15b9-1. Section 17(b) of the Exchange Act provides, among 
other things, that all records of a broker-dealer are subject at any 
time, or from time to time, to such reasonable, periodic, special, 
or other examinations by representatives of the Commission and the 
appropriate regulatory agency of the broker-dealer as the Commission 
or the appropriate regulatory agency deems necessary or appropriate 
in the public interest, for the protection of investors, or 
otherwise in furtherance of the purposes of the Exchange Act.
    \76\ See, e.g., 17 CFR 240.15c3-1 (Exchange Act Rule 15c3-1) 
(the ``Net Capital Rule''; Financial Responsibility Rules for 
Broker-Dealers, Exchange Act Release No. 70072 (July 30, 2013), 78 
FR 51823 at 51849 (Aug. 21, 2013) (``The capital standard in Rule 
15c3-1 is a net liquid assets test. This standard is designed to 
allow a broker-dealer the flexibility to engage in activities that 
are part of conducting a securities business (e.g., taking 
securities into inventory) but in a manner that places the firm in 
the position of holding at all times more than one dollar of highly 
liquid assets for each dollar of unsubordinated liabilities (e.g., 
money owed to customers, counterparties, and creditors)''). The rule 
imposes a ``moment to moment'' net capital requirement in that 
broker-dealers must maintain an amount of net capital that meets or 
exceeds their minimal net capital requirement at all times.
    \77\ See, e.g., FINRA Rule 6730(a)(1) (requiring FINRA members 
to report transactions in TRACE-Eligible Securities, including 
Treasury securities, which promotes transparency to the securities 
markets, including the Treasury market, by providing market 
participants with comprehensive access to transaction data); FINRA 
Rule 7200 (Trade Reporting Facilities); FINRA Rule 4530 (Reporting 
Requirements) which requires FINRA members to report among other 
things when the member or an associated person of the members has 
violated certain specified regulatory requirements, is subject to 
written customer complaint, and is denied registration or is 
expelled, enjoined, directed to cease and desist, suspended or 
disciplined by a specified regulatory body. The provision at 17 CFR 
240.17a-5(d)(1)(i)(A) (Exchange Act Rule 17a-5(d)(1)(i)(A)) requires 
broker-dealers, subject to limited exceptions, to file annual 
reports, including financial statements and supporting schedules 
that generally must be audited by a Public Company Accounting 
Oversight Board (PCAOB)-registered independent public accountant in 
accordance with PCAOB standards.
    \78\ See, e.g., 17 CFR 240.15c3-5 (Exchange Act Rule 15c3-5)--
Risk Management Controls for Brokers or Dealers with Market Access 
(the ``Market Access Rule'') promotes market integrity by reducing 
risks associated with market access by requiring financial and 
regulatory risk management controls reasonably designed to limit 
financial exposures and ensure compliance with applicable regulatory 
requirements.
    \79\ See, e.g., Section 17(a) of the Exchange Act and 17 CFR 
240.17a-3 and 240.17a-4 (Rules 17a-3 and 17a-4 thereunder); see 
also, e.g., FINRA Rules 2268, 4510, 4511, 4512, 4513, 4514, 4515, 
5340 and 7440(a)(4) (requiring member firms to make and preserve 
certain books and records to show compliance with applicable 
securities laws, rules, and regulations and enable Commission and 
FINRA staffs to conduct effective examinations); NYSE Rule 440 
(Books and Records); CBOE Exchange Rule 7.1 (Maintenance, Retention 
and Furnishing of Books, Records and Other Information). Among other 
things, Commission and SRO books and records rules help to ensure 
that regulators can access information to evaluate the financial and 
operational condition of the firm, including examining compliance 
with financial responsibility rules, among other rules, as well as 
assess whether and how a firm's participation in the securities 
markets impacted a major market event. See Staff Study on Investment 
Advisers and Broker-Dealers As Required by Section 913 of the Dodd-
Frank Wall Street Reform and Consumer Protection Act (Jan. 2011) at 
72. See also Recordkeeping and Reporting Requirements for Security-
Based Swap Dealers, Major Security-Based Swap Participants, and 
Broker-Dealers; Capital Rule for Certain Security-Based Swaps 
Dealers, Exchange Act Release No. 71958 (Apr. 17, 2014), 79 FR 
25194, 25199 (May 2, 2014) (``The requirements are an integral part 
of the investor protection function of the Commission, and other 
securities regulators, in that the preserved records are the primary 
means of monitoring compliance with applicable securities laws, 
including antifraud provisions and financial responsibility 
standards.'').
    \80\ See, e.g., Sections 15(c)(1) and (2) of the Exchange Act, 
15 U.S.C. 78o(c)(1) and (2), and rules promulgated thereunder.
    \81\ Under Title I of the Government Securities Act (``GSA''), 
all government securities brokers and government securities dealers 
are required to comply with the requirements in Treasury's GSA 
regulations that are set out in 17 CFR parts 400 through 449. For 
the most part, Treasury's GSA regulations incorporate with some 
modifications: (1) Commission rules for non-financial institution 
government securities brokers and government securities dealers; and 
(2) the appropriate regulatory agency rules for financial 
institutions that are required to file notice as government 
securities brokers and government securities dealers. See, e.g., 17 
CFR part 400, Rules of general application; 17 CFR part 401, 
Exemptions; 17 CFR part 402, Financial responsibility; 17 CFR part 
403, Protection of customer securities and balances; 17 CFR part 
404, Recordkeeping and preservation of records; 17 CFR part 405, 
Reports and audit; 17 CFR part 420, Large position reporting; and 17 
CFR part 449, Forms, Section 15C of the Exchange Act. The GSA 
regulations also include requirements for custodial holdings by 
depository institutions at 17 CFR part 450, which were issued under 
Title II of the GSA. The Treasury GSA regulations provide in many 
instances that a registered dealer can comply with a Commission rule 
to establish compliance with the comparable Treasury requirement. 
See, e.g., 17 CFR 402.1(b) (Treas. Reg. Sec.  402.1(b)) (``This part 
does not apply to a registered broker or dealer . . . that is 
subject to [Exchange Act Rule 15c3-1].''); 17 CFR 403.1 (Treas. Reg. 
Sec.  403.1) (regarding application to registered brokers or 
dealers); 17 CFR 404.1 and 405.1(a) (Treas. Reg. Sec. Sec.  404.1 
and 405.1(a)) (same).
    \82\ See Exchange Act Section 15(b) (regarding Commission 
authority to sanction brokers and dealers); Section 15C(c) 
(regarding Commission authority to sanction government securities 
dealers that are registered with it); Section 15C(d) (authorizing 
the Commission to examine books and records of government securities 
dealers registered with it); and Section 17(b) (broker-dealer 
recordkeeping and examination). See also Section 15C(g) (restricting 
the ability of the Commission with respect to government securities 
dealers that are not registered with the Commission).
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III. Overview of Proposed Rules

    The operative concept in the definitions of ``dealer'' and 
``government securities dealer''--that distinguishes the regulated 
entity from the unregulated trader--is that the dealer is engaged in 
buying and selling securities for its own account ``as part of a 
regular business.'' \83\ The Commission is proposing two rules--
proposed Rules 3a5-4 and 3a44-2--to further define these terms to 
identify certain activities that would constitute a ``regular 
business'' requiring a person engaged in those activities to register 
as a ``dealer'' or a ``government securities dealer,'' absent an 
exception or exemption.\84\ A person (as defined below) who engages in 
any one of the activities identified in either proposed Rule 3a5-4 or 
3a44-2 would be considered a dealer under that rule.\85\
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    \83\ As discussed above, the definitions of ``dealer'' and 
``government securities dealer'' under the Exchange Act exclude from 
dealer status a person that buys or sells securities for such 
person's own account ``but not as a part of a regular business.'' 
See 15 U.S.C. 78c(a)(5)(A) and (B) and 15 U.S.C. 78c(a)(44)(A).
    \84\ See Exchange Act Section 15 (regarding registration of 
dealers) and Section 15C (regarding registration of government 
securities dealers).
    \85\ Status as a securities ``dealer'' or ``government 
securities dealer'' as a result of engaging in securities or 
government securities transactions ``as part of a regular business'' 
under proposed Rules 3a5-4 or 3a44-2 is not determinative of a 
person's status for purposes of the exclusions in Section 3(c)(2) of 
the Investment Company Act. Although that exclusion uses some 
terminology that is similar to that in the Proposed Rules, Section 
3(c)(2) includes a number of conditions in addition to the 
requirement that a person regularly engage in transactions on both 
sides of the market, each of which an entity would have to satisfy 
to be able to rely on the investment company exclusion.
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    As explained above, over the years the Commission and the courts 
have identified a number of qualitative factors, including acting as a 
market maker, de facto market maker, or liquidity provider, that might 
indicate a person may be engaged in a regular business of buying and 
selling securities for its own account.\86\ The Proposed Rules would 
expand upon these statements to further define three qualitative 
standards designed to more specifically identify activities of certain 
market participants who assume dealer-like roles, specifically, persons 
whose trading activity in the market ``has the effect of providing 
liquidity'' to other

[[Page 23062]]

market participants.\87\ While all market participants who buy or sell 
securities in the marketplace arguably contribute to a market's 
liquidity, the Proposed Rules focus on market participants who engage 
in a routine pattern of buying and selling securities for their own 
account that has the effect of providing liquidity. Said differently, 
for market participants engaging in any of the activities identified by 
the qualitative standards of the Proposed Rules, liquidity provision is 
not incidental to their trading activities. Rather, these persons are 
``in the business'' of buying and selling securities for their own 
account and providing liquidity as part of a regular business.\88\ The 
Proposed Rules would set forth three standards that the Commission 
believes would appropriately distinguish and identify such liquidity 
provision as a ``regular business.''
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    \86\ See 2002 Release (stating that a person generally may 
satisfy the definition, and therefore, be acting as a dealer in the 
securities markets, by conducting various activities, including 
``acting as a market maker or specialist on an organized exchange or 
trading system'' or ``acting as a de facto market maker whereby 
market professionals or the public look to the firm for 
liquidity'').
    \87\ As noted below, the Proposed Rules are not the exclusive 
means of establishing that a person is a dealer or government 
securities dealer--to the extent consistent with the Proposed Rules, 
existing Commission interpretations and precedent will continue to 
apply. See above Section II.A. For example, facts indicating a 
person may be acting as a ``dealer'' include underwriting, as well 
as buying and selling directly to securities customers together with 
conducting any of an assortment of professional market activities 
such as providing investment recommendations, extending credit, and 
lending securities in connection with transactions in securities, 
and carrying a securities account. See 2002 Release. See also SEC v. 
Justin W. Keener d/b/a JMJ Financial, No. 20-cv-21254 (S.D. Fla. 
Jan. 21, 2022). Accordingly, a person may still be acting as a 
dealer even if they do not, under the Proposed Rules, engage in a 
routine pattern of buying and selling securities that has the effect 
of providing liquidity to other market participants. See proposed 
Rule 3a5-4(c) and proposed Rule 3a44-2(c), discussed below in 
Section III.E.
    \88\ PTFs engaging in passive market making, for example, earn 
revenue primarily from the provision of liquidity, specifically ``by 
buying at the bid and selling at the offer and capturing any 
liquidity rebates offered by trading centers to liquidity supplying 
orders.'' See, e.g., 2010 Equity Market Structure Concept Release at 
3607.
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    In addition, proposed Rule 3a44-2, which would apply only to 
government securities dealers, would include a quantitative 
standard.\89\ This quantitative standard would establish a bright-line 
test, under which a person engaging in certain specified levels of 
activity would be deemed to be buying and selling government securities 
``as a part of a regular business,'' regardless of whether it meets any 
of the qualitative standards.\90\
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    \89\ See Section III.C.
    \90\ See id.
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    A person whose activity meets the quantitative or any of the 
qualitative standards would be a dealer and so subject to the Exchange 
Act registration requirements, regardless of whether the liquidity 
provision is a chosen consequence of its activities.\91\
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    \91\ The Proposed Rules focus on effect regardless of a person's 
intention. The fact that the provision of liquidity is a fundamental 
aspect of the activities captured by the qualitative standards does 
not mean that such liquidity provision need be deliberate to come 
within the Proposed Rules. Intent is not required by the statutory 
language, nor is it relevant in every circumstance.
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    To account for variations in corporate structure and ownership, the 
Proposed Rules additionally would define the terms ``own account'' and 
``control.'' The Proposed Rules would define a person's ``own account'' 
to mean, subject to certain exceptions, any account: (i) Held in the 
name of that person; (ii) held in the name of a person, over whom that 
person exercises control or with whom that person is under common 
control; \92\ or (iii) held for the benefit of those persons identified 
in (i) and (ii). In addition, the Proposed Rules would give ``control'' 
the ``same meaning as prescribed in Sec.  240.13h-l (Rule 13h-l), under 
the Exchange Act.''
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    \92\ The Proposed Rules would exclude from aggregation under 
paragraph (b)(2)(ii): (A) An account in the name of a registered 
broker, dealer, government securities dealer, or an investment 
company registered under the Investment Company Act; (B) with 
respect to an investment adviser registered under the Advisers Act, 
an account held in the name of a client of the adviser unless the 
adviser controls the client as a result of the adviser's right to 
vote or direct the vote of voting securities of the client, the 
adviser's right to sell or direct the sale of voting securities of 
the client, or the adviser's capital contributions to or rights to 
amounts upon dissolution of the client; or (C) with respect to any 
person, an account in the name of another person that is under 
common control with that person solely because both persons are 
clients of an investment adviser registered under the Advisers Act 
unless those accounts constitute a parallel account structure.
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    While the Proposed Rules would establish standards that identify 
when a person is acting as a dealer or government securities dealer, 
whether a person's activities meet these standards would remain a facts 
and circumstances determination.\93\ Importantly, the Proposed Rules 
are not the exclusive means of establishing that a person is a dealer 
or government securities dealer--to the extent consistent with the 
Proposed Rules, existing Commission interpretations and precedent will 
continue to apply.\94\
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    \93\ Cf. 2002 Release (``[T]he analysis of whether a person 
meets the definition of a dealer depends upon all of the relevant 
facts and circumstances.'').
    \94\ See Section II.A. For example, a person generally may 
satisfy the statutory definition of ``dealer'' by underwriting, or 
buying and selling directly to securities customers together with 
conducting any of an assortment of professional market activities 
such as providing investment recommendations, extending credit, and 
lending securities in connection with transactions in securities, 
and carrying a securities account. See 2002 Release.
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    A market participant that is not registered as a dealer that comes 
within the scope of the Proposed Rules would need to register with the 
Commission as a dealer or government securities dealer and become a 
member of an SRO. This would involve filing Form BD with the Commission 
and completing the SRO's processes for new members.\95\ The Commission 
is proposing to provide such market participants a one-year compliance 
period from the effective date of any final rules. The proposed 
compliance period is designed to provide adequate time for persons 
captured by the Proposed Rules at the time of adoption, if adopted, to 
apply for dealer registration, and for the relevant SROs to conduct 
their review of the new member applications, without disrupting the 
markets or the participants' market activities. The proposed compliance 
period would not cover market participants whose activities following 
the effective date of any final rules require registration as dealers 
under those rules.
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    \95\ After receiving a substantially complete application 
package, FINRA, for instance, must review and process it within 180 
calendar days. See ``How to Become a Member--Member Application Time 
Frames,'' available at https://www.finra.org/registration-exams-ce/broker-dealers/how-become-member-membership-application-time-frames. 
See also FINRA Rule 1014.
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A. Persons Excluded From the Proposed Rules

    Under the Proposed Rules, the term ``person'' would have the same 
meaning as prescribed in Section 3(a)(9) of the Exchange Act.\96\ As a 
threshold matter, the Proposed Rules would not apply to: (i) ``[a] 
person that has or controls total assets of less than $50 million;'' 
\97\ or (ii) ``[an] investment company registered under the Investment 
Company Act.'' \98\
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    \96\ See proposed Rule 3a5-4(b)(1) and proposed Rule 3a44-
2(b)(1).
    \97\ See proposed Rule 3a5-4(a)(2)(i) and proposed Rule 3a44-
2(a)(3)(i). While a person who has or controls less than $50 million 
in total assets would not be subject to the Proposed Rules, that 
person's trading volume or activities may still be aggregated with 
those of another person under the Proposed Rules definitions of 
``own account'' and ``control.'' See Section III.D.
    \98\ See proposed Rule 3a5-4(a)(2)(ii) and proposed Rule 3a44-
2(a)(3)(ii).
---------------------------------------------------------------------------

    As discussed above, the Proposed Rules are intended to capture 
market participants not registered as dealers that serve a critical 
dealer-like role in the securities and government securities markets 
through their liquidity provision or significant and regular trading 
activity in the market. By providing an exception for persons that have 
or control total assets of less than $50 million, the Proposed Rules 
would parallel an established standard for distinguishing between 
``retail'' and ``institutional'' investors in other

[[Page 23063]]

contexts.\99\ The Commission believes that this threshold is 
appropriate in the context of the Proposed Rules because, even though a 
person that has or controls less than $50 million in assets may be 
engaged in the activities identified in the Proposed Rules' qualitative 
standards,\100\ the frequency and nature of its securities trading are 
less likely to pose the types of financial and operational risks to the 
market that may be associated with the significant dealer-like activity 
engaged in by certain PTFs and other institutional market participants, 
that the Proposed Rules are designed to address.\101\ This is not an 
exclusion from the dealer definition for all purposes. Rather, as with 
other persons not within the ambit of the Proposed Rules, the question 
of whether a person that has or controls less than $50 million in total 
assets is acting as a dealer, as opposed to a trader, will remain a 
facts and circumstances determination, and to the extent consistent 
with the Proposed Rules, existing applicable interpretations and 
precedent will continue to apply.\102\
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    \99\ Under FINRA rules, a ``retail'' account is distinguished 
from an ``institutional'' account by defining, in part, an 
institutional account as belonging to ``a person (whether a natural 
person, corporation, partnership, trust, or otherwise) with total 
assets of at least $50 million.'' FINRA Rule 4512(c)(3); see also 
Business Conduct Standards for Security-Based Swap Dealers and Major 
Security-Based Swap Participants, Exchange Act Release No. 77617 
(Apr. 14, 2016), 81 FR 29959, 29995 n.462 (May 13, 2016) (adopting a 
similar threshold for purposes of 17 CFR 240.15Fh-3(f)(4) (Exchange 
Act Rule 15Fh-3(f)(4))). The Proposed Rules do not use the 
definition of ``retail customer'' adopted as part of Regulation Best 
Interest, as the policy considerations behind that definition are 
different than those presented here: The focus of Regulation Best 
Interest is the regulatory protections provided to customers who 
receive recommendations from broker-dealers, whereas the focus of 
this proposed rulemaking is the regulation of persons engaging in 
certain dealer-like activities. See Regulation Best Interest: The 
Broker-Dealer Standard of Conduct, Exchange Act Release No. 86031 
(June 5, 2019), 84 FR 33318 (July 12, 2019).
    \100\ As discussed in Section III.C, to meet the quantitative 
standard set forth in proposed Rule 3a44-2(a)(2) a person must, in 
each of four out of the last six calendar months, engage in buying 
and selling more than $25 billion of trading volume in government 
securities as defined in Section 3(a)(42)(A) of the Exchange Act. 
The Commission believes that there will not be any instances where a 
person who has or controls less than $50 million in total assets 
will meet this quantitative standard.
    \101\ Depending on the scope and nature of its activities, such 
a person could come within the definition of ``pattern day trader'' 
under FINRA rules. See FINRA Rule 4210. Notably, among other 
requirements, a pattern day trader must maintain a minimum amount of 
equity in its margin account on any day that the customer day trades 
and this minimum equity must be in the account prior to engaging in 
any day-trading activities. Id. If the account falls below the 
minimum requirement, the pattern day trader will not be permitted to 
day trade until the account is restored to the minimum equity level. 
Id.
    \102\ As discussed above, dealer status involves engaging in 
``more than a few isolated'' securities transactions. See supra note 
47 and accompanying text.
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    The Commission is proposing to exclude registered investment 
companies from the application of the Proposed Rules.\103\ Registered 
investment companies are subject to a regulatory framework under the 
Investment Company Act and rules thereunder, which imposes requirements 
regarding capital structure,\104\ custody of assets,\105\ investment 
activities,\106\ transactions with affiliates and other conflicts of 
interest,\107\ and the duties and independence of boards of directors, 
among other things.\108\ Moreover, registered investment companies are 
subject to statutory limits on indebtedness and rules that limit 
leverage risk.\109\ In addition, registered investment companies must 
adopt, implement, and review at least annually written policies and 
procedures reasonably designed to prevent violations of the Federal 
securities laws by the fund.\110\ These policies and procedures must be 
approved by the fund's board of directors, including a majority of 
independent directors, and are administered by a designated chief 
compliance officer.\111\ Registered investment companies are required 
to register under the Investment Company Act and offer their shares 
under the Securities Act of 1933 (``Securities Act'').\112\ They also 
must report to the Commission on many aspects of their operations and 
their portfolio holdings.\113\ Registered investment companies must 
maintain certain books and records and make them available for 
examination by the Commission.\114\ As a result, the Commission has 
extensive oversight of registered investment companies and broad 
insight into their operations and activities. In light of the 
regulatory structure that governs registered investment companies, 
which addresses, among other things, the types of concerns that we seek 
to address in the Proposed Rules, the Commission is proposing to 
exclude registered investment companies from the application of the 
Proposed Rules.\115\
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    \103\ A registered investment company includes any issuer which 
is or holds itself out as being primarily, or proposes to engage 
primarily, in the business of investing, reinvesting, or trading in 
securities. 15 U.S.C. 80a-3(a)(1)(A). The Investment Company Act 
generally prohibits a domestic registered investment company from 
offering or selling any security unless the company is registered 
under Section 8 of the Investment Company Act. 15 U.S.C. 80a-7(a).
    \104\ See 15 U.S.C. 80a-18.
    \105\ See 15 U.S.C. 80a-17(f); 17 CFR 270.17f-1 through 270.17f-
7.
    \106\ See, e.g., 15 U.S.C. 80a-12(d)(1), 12(d)(3).
    \107\ See 15 U.S.C. 80a-17(a), (d), (e); 17 CFR 270.17d-1, 
270.17e-1.
    \108\ See, e.g., 15 U.S.C. 80a-2(a)(41), 15, 17(f), 17 CFR 
270.17(j), 270.31(a); 17 CFR 270.2a-4, 270.2a-5, 270.10f-3, 270.12b-
1, 270.17a-7, 270.17e-1, 270.22c-1, 270.38a-1.
    \109\ See 15 U.S.C. 80a-18 (Section 18 prohibits closed-end 
funds from issuing or selling senior securities that represent 
indebtedness unless it has at least 300 percent asset coverage, and 
open-end funds from issuing or selling a senior security other than 
borrowing from a bank, also subject to 300 percent asset coverage 
and defines ``senior security,'' in part, as ``any bond, debenture, 
note, or similar obligation or instrument constituting a security 
and evidencing indebtedness.''); 17 CFR 270.18f-4 (generally 
requiring investment companies that use derivatives to adopt a 
derivatives risk management program that includes a limitation on 
leverage risk based on Value-at-Risk (VaR)). See also Use of 
Derivatives by Registered Investment Companies and Business 
Development Companies, Investment Company Act Release No. 34084 
(Nov. 2, 2021), 85 FR 83162 (Dec. 21, 2020).
    \110\ 17 CFR 270.38a-1. The fund's policies and procedures also 
must provide for the oversight of compliance by the fund's advisers, 
principal underwriters, administrators, and transfer agents. See 
also 15 U.S.C. 80a-47(a) (``It shall be unlawful for any person, 
directly or indirectly, to cause to be done any act or thing through 
or by means of any other person which it would be unlawful for such 
person to do under the provisions of this subchapter or any rule, 
regulation, or order thereunder.'').
    \111\ 17 CFR 270.38a-1.
    \112\ Depending on the organizational form, investment companies 
register under the Investment Company Act and offer their shares 
under the Securities Act on Forms N-1A (open-end management 
investment companies), N-2 (closed-end management investment 
companies), N-3 (separate accounts organized as management 
companies), N-4 (separate accounts organized as unit investment 
trusts), N-5 (small business investment companies), and N-6 
(separate accounts organized as unit investment trusts that offer 
variable life insurance products).
    \113\ Registered investment companies report certain census 
information annually to the Commission on Form N-CEN. Registered 
investment companies also are required to report monthly portfolio-
wide and position-level holdings data to the Commission on Form N-
PORT. This includes information regarding repurchase agreements, 
securities lending activities, and counterparty exposures, terms of 
derivatives contracts, and discrete portfolio level and position 
level risk measures to better understand fund exposure to changes in 
market conditions.
    \114\ 15 U.S.C. 80a-30.
    \115\ As discussed in Section III.D, for purposes of the 
definition of ``own account,'' an account held in the name of a 
person that is a registered investment company would not be 
attributed to a controlling person or another person under common 
control.
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    The Proposed Rules would not exclude private funds because we are 
taking a similar approach to regulating dealer activity across market 
participants and, unlike registered investment companies, private funds 
are not subject to the extensive regulatory framework of the Investment 
Company Act. The Commission is mindful that registered private fund 
advisers are regulated under the Advisers Act and that information on 
private fund activities is reported by registered

[[Page 23064]]

private fund advisers on Form PF.\116\ The information the Commission 
obtains on private funds through its regulation of registered 
investment advisers, however, differs from that the Commission collects 
for the purposes of dealer regulation. In addition, dealer registration 
enhances regulatory oversight of market participants' trading 
activities and interactions with the market overall and dealer 
regulatory requirements focus broadly on market functionality (along 
with protecting investors under principles of fair dealing between 
parties).
---------------------------------------------------------------------------

    \116\ The Commission recently has issued a proposal to amend 
Form PF, which would provide the SEC and the Financial Stability 
Oversight Counsel (``FSOC'') with additional confidential 
information about private funds. Information reported on Form PF has 
helped establish a baseline picture of the private fund industry for 
use in assessing systemic risk. These proposed amendments would 
apply to large hedge fund advisers, private equity advisers, and 
large liquidity fund advisers and are designed to enhance FSOC's and 
the Commission's ability to monitor systemic risk, bolster the 
Commission's regulatory oversight of private fund advisers, and 
enhance investor protection efforts. See Form PF Proposing Release, 
supra note 34.
---------------------------------------------------------------------------

    Similarly, the Proposed Rules would not apply a blanket exclusion 
for registered investment advisers. A registered investment adviser 
trading for its ``own account'' as defined in the Proposed Rules could 
implicate dealer registration requirements.\117\ The Commission is 
mindful, however, that with some clients, a registered investment 
adviser only exercises investment discretion over the client's account, 
while with some other clients, the adviser also may control the client 
through an ownership interest. The Proposed Rules take into account a 
registered investment adviser's role in determining what client trading 
activity should be attributed to the adviser for purpose of the 
rules.\118\
---------------------------------------------------------------------------

    \117\ See proposed Rule 3a5-2(b)(2) and proposed Rule 3a44-
2(b)(2).
    \118\ See infra note 185 and accompanying text.
---------------------------------------------------------------------------

Request for Comments
    The Commission generally requests comment on this aspect of the 
Proposed Rules. In addition, the Commission requests comment on the 
following specific issues:
    1. Should the Proposed Rules exclude persons that have or control 
less than $50 million in total assets? Are there instances in which 
persons that have or control less than $50 million in total assets that 
are buying and selling securities or government securities for their 
own accounts provide liquidity to the markets or have a significant 
impact on the markets that would warrant regulation as dealers or 
government securities dealers? Please explain.
    2. Does the proposed $50 million in total assets threshold 
sufficiently distinguish persons whose activity should not be captured 
for purposes of the Proposed Rules? If not, is there another amount or 
measurement that would better distinguish these smaller market 
participants and achieve the purposes of the Proposed Rules? Please 
explain.
    3. Would persons that would be captured by the Proposed Rules 
(i.e., have or control more than $50 million in total assets) 
restructure their activities or change their corporate structures for 
the purpose of avoiding registration, including withdrawing or reducing 
their trading activities or ceasing investment strategies that trigger 
the application of the Proposed Rules? What would be the effects of 
such restructuring, withdrawal, or cessation? Please explain.
    4. Should the Commission exclude registered investment companies 
from the scope of the Proposed Rules? Why or why not? If they are not 
excluded, do registered investment companies engage in activities that 
would be captured by the Proposed Rules? Could a registered investment 
company comply with the requirements applicable to dealers? What would 
be the potential costs and/or benefits of requiring registered 
investment companies to register as dealers or government securities 
dealers? Could the registered investment companies restructure their 
activities to avoid dealer registration? What would be the effects of 
such restructuring? Please explain.
    5. The Proposed Rules do not exclude private funds, that is, pooled 
investment vehicles that are exempted from the definition of 
``investment company'' under Section 3(c)(1) or 3(c)(7) of the 
Investment Company Act. Should the Commission except or exclude private 
funds from the scope of the Proposed Rules? Why or why not? Should the 
Commission except or exclude private funds advised by registered 
investment advisers from the scope of the Proposed Rules? Do some 
private funds engage in activities that would be captured by the 
Proposed Rules? Could a private fund comply with the requirements 
applicable to dealers? What would be the potential costs and/or 
benefits of requiring private funds to register as dealers or 
government securities dealers? Would private funds restructure their 
activities to avoid registration as a dealer? What would be the effects 
of such restructuring? Would private funds cease or reduce investment 
strategies captured by the Proposed Rules to avoid registration as a 
dealer? If so, what would be the effects of removing or reducing these 
investment strategies from the markets? Please explain.
    6. Should registered investment advisers trading for their own 
accounts be excluded partially or entirely from the Proposed Rules? Why 
or why not? Could some registered investment advisers engage in 
activities that meet the proposed qualitative standards and trigger the 
application of the Proposed Rules? Could some registered investment 
advisers engage in trading volume in government securities that could 
exceed the quantitative threshold in proposed Rule 3a44-2? If 
registered investment advisers were captured by the Proposed Rules, how 
would they comply with the requirements applicable to dealers? Would 
the registered investment advisers restructure their activities to 
avoid registration as a dealer, including withdrawing or reducing their 
trading activities or ceasing or reducing investment strategies that 
trigger the application of the Proposed Rules? What would be the 
effects of such restructuring, withdrawal, or cessation? Please 
explain.
    7. Instead of addressing investment adviser and private fund dealer 
concerns under the framework of existing dealer regulation, should the 
Commission consider a proposed rulemaking under the Advisers Act to 
address these concerns? What elements should be included in such a 
rulemaking? For example, should it include transaction reporting and/or 
capital requirements?
    8. Should the Commission except or exclude any other categories of 
persons from the scope of the Proposed Rules? If so, what persons, and 
why? If not, why not?

B. Qualitative Standards

    The qualitative standards in the Proposed Rules would build on 
existing statements by the Commission and the courts regarding 
``dealer'' activity to further define certain standards for determining 
when a person that is engaged in buying and selling securities for its 
own account is engaged in that activity ``as a part of a regular 
business,'' as that phrase is used in Sections 3(a)(5) and 3(a)(44)(B) 
of the Exchange Act. Specifically, under paragraph (a)(1) of the 
Proposed Rules, a person would be engaged in buying and selling 
securities for its own account ``as a part of a regular business'' and 
so a dealer or a government securities dealer, if that person engages 
in a routine pattern of buying and selling securities (or

[[Page 23065]]

government securities) that has the effect of providing liquidity to 
other market participants.
    The Proposed Rules further identify three types of activities that 
would be considered to have the effect of providing liquidity to other 
market participants: (i) Routinely making roughly comparable purchases 
and sales of the same or substantially similar securities (or 
government securities) in a day; or (ii) routinely expressing trading 
interests that are at or near the best available prices on both sides 
of the market and that are communicated and represented in a way that 
makes them accessible to other market participants; or (iii) earning 
revenue primarily from capturing bid-ask spreads, by buying at the bid 
and selling at the offer, or from capturing any incentives offered by 
trading venues to liquidity-supplying trading interests. The following 
discussion of the proposed qualitative standards is applicable to both 
rules, and references to ``dealer'' activity apply equally to both 
``dealers'' and ``government securities dealers'' under Sections 
3(a)(5) and 3(a)(44) of the Exchange Act, respectively, unless 
otherwise indicated.
    Under the Proposed Rules, a person's securities trading activity 
would form a ``part of a regular business'' when that person ``engages 
in a routine pattern of buying and selling securities [or government 
securities] that has the effect of providing liquidity to other market 
participants.'' \119\ Under this qualitative standard, when the 
frequency and nature of a person's securities trading is such that the 
person assumes a role--described as either market-making, de facto 
market-making, or liquidity-providing--similar to the role that 
historically has been performed by a set of registered dealers, that 
person would be deemed to be acting as a dealer or government 
securities dealer.\120\ As elaborated below, the Proposed Rules 
identify three patterns of buying and selling that the Commission views 
as having the effect of providing liquidity--any one of which is 
sufficient to require a person to register as a dealer. As discussed 
below, no presumption shall arise that a person is not a dealer solely 
because that person does not engage in the activities described in the 
Proposed Rules.\121\ Other patterns of buying and selling may have the 
effect of providing liquidity to other market participants or otherwise 
require a person to register under the Proposed Rules in accordance 
with applicable precedent.
---------------------------------------------------------------------------

    \119\ See proposed Rule 3a5-4(a)(1) and proposed Rule 3a44-
2(a)(1).
    \120\ See, e.g., 2002 Release at 67499.
    \121\ See proposed Rule 3a5-4(c) and proposed Rule 3a44-2(c), 
discussed in Section III.E.
---------------------------------------------------------------------------

    The Commission has long identified activities related to liquidity 
provision as factors that would indicate a person is `` `engaged in the 
business' of buying and selling securities.'' \122\ Historically, 
persons who provide liquidity in securities markets in exchange for 
compensation, earning revenue from the act of buying and selling 
itself, have registered as dealers.\123\ And, from the enactment of the 
Exchange Act, the term ``dealer'' has included a class of liquidity 
providers that includes but is broader than market makers, 
encompassing, for example, professional floor traders who trade ``in 
and out,'' effect ``about half of the transactions on the floor of the 
stock exchange,'' and whose ``profits depend upon . . . running along 
and playing with the trends and not getting caught taking positions.'' 
\124\ As securities markets have evolved, and new market participants 
have increasingly taken on market-making and liquidity-providing roles, 
the Commission has stated that dealer activity includes not only 
``acting as a market maker'' but also ``acting as a de facto market 
maker whereby market professionals or the public look to the firm for 
liquidity.'' \125\ Traders, by contrast, the Commission indicated, do 
``not mak[e] a market in securities.'' \126\
---------------------------------------------------------------------------

    \122\ 2002 Release at 67498-500. In addition, the staff has 
stated that, while ``the practical distinction between a `trader' 
and a `dealer' is often difficult to make and depends substantially 
upon the facts, . . . [a]s a general matter, a trader does not[, 
among other things,] . . . furnish the services which are usually 
provided by dealers, such as quoting the market in one or more 
securities.'' National Council of Savings Inst., SEC No-Action 
Letter, 1986 WL 67129 (July 27, 1986) (the staff declined to take a 
no-action position with respect to national trade association's 
members as ``a determination of a Member's status under the 
[Exchange] Act would depend upon an analysis of all of that Member's 
securities activities, and not just'' the activities described in 
the request).
    \123\ See, e.g., Exchange Act Section 3(a)(38), 15 U.S.C. 
78c(a)(38) (``The term `market maker' means any specialist permitted 
to act as a dealer, any dealer acting in the capacity of block 
positioner, and any dealer who, with respect to a security, holds 
himself out (by entering quotations in an inter-dealer 
communications system or otherwise) as being willing to buy and sell 
such security for his own account on a regular or continuous 
basis.'') (emphasis added). See also Stock Exchange Regulation: 
Hearing on H.R. 7852 and H.R. 8720 Before the Committee on 
Interstate and Foreign Commerce, 73rd Congr. 117 (1934) (statement 
of Thomas Corcoran) (``The term `dealer' is broad enough to include 
. . . the floor trader . . . [whose] profits depend upon his running 
along and playing with the trends and not getting caught taking 
positions.''); 2002 Release at 67499 (``A person generally may 
satisfy the definition, and therefore, be acting as a dealer in the 
securities markets by . . . acting as a market maker or specialist 
on an organized exchange or trading system [or] acting as a de facto 
market maker whereby market professionals or the public look to the 
firm for liquidity . . . .'').
    \124\ See Stock Exchange Regulation: Hearing on H.R. 7852 and 
H.R. 8720 Before the Committee on Interstate and Foreign Commerce, 
73rd Congr. 117 (1934) (statement of Thomas Corcoran). See also U.S. 
Securities and Exchange Commission, Report on the Feasibility and 
Advisability of the Complete Segregation of the Functions of Dealer 
and Broker 21, 25, 85, 109 (1936).
    \125\ See 2002 Release at 67499.
    \126\ Id.
---------------------------------------------------------------------------

    In the context of the Proposed Rules, and as discussed further 
below, a ``pattern'' of trading means buying and selling repetitively. 
For a pattern to come within the Proposed Rules, both purchases and 
sales would have to be ``routine'' and have ``the effect of providing 
liquidity'' to other market participants. Further, as discussed below, 
the Proposed Rules would set forth three standards that the Commission 
believes would appropriately distinguish and identify such liquidity 
provision as a ``regular business'' as opposed to non-dealer, or 
trader, activity.
    In this respect, the Proposed Rules focus on activity rather than 
label or status. The Proposed Rules by their terms would cover any 
person (as defined above) who ``engages in a routine pattern of buying 
and selling securities [or government securities] that has the effect 
of providing liquidity to other market participants,'' regardless of 
whether the person labels itself, or is commonly known as, a PTF.
    The liquidity-providing activity captured by the Proposed Rules 
would include not only passive liquidity-providing activity \127\ but 
also aggressive trading strategies, including structural or directional 
trading \128\ that similarly

[[Page 23066]]

permit a person to earn revenue from the act of buying and selling 
itself. In this regard, the Proposed Rules would cover persons who 
trade, as part of a regular business,\129\ ``in and out'' and whose 
``profits depend upon . . . running along and playing with the trends 
and not getting caught taking positions''--activity understood from the 
enactment of the Exchange Act to be a form of dealer activity--as well 
as more traditional forms of liquidity provision, such as market 
making.\130\
---------------------------------------------------------------------------

    \127\ See Algorithmic Trading Staff Report at 39 (``Passive 
market-making involves submitting non-marketable orders on both 
sides (buy or `bid,' and sell or `offer') of the marketplace.'').
    \128\ See id. at 39-41 (citing 2010 Equity Market Structure 
Concept Release and SEC Staff of the Division of Trading and 
Markets, Equities Market Structure Literature Review Part II: High 
Frequency Trading (Mar. 18, 2014)) (describing broad types of short-
term high frequency trading strategies). Market participants of the 
kind that this release addresses, including PTFs, may carry out 
passive market making strategies. They may also engage in a range of 
trading strategies that involve submitting aggressive orders, or a 
combination of passive and aggressive orders, ``sometimes rapidly 
demanding liquidity, in order to quickly liquidate positions 
accumulated through providing liquidity.'' See Algorithmic Trading 
Staff Report at 39-40; see also ``Making,'' ``taking'' and the 
material political economy of algorithmic trading, Donald MacKenzie, 
Economy and Society, 47:4, 501-23 (2018); High-Frequency Trading 
Strategies Michael Goldstein, Babson College, Amy Kwan, University 
of Sydney, Richard Philip, University of Sydney (Dec. 8, 2016); 
Exploring Market Making Strategy for High Frequency Trading: An 
Agent-Based Approach, Yibing Xiong, Takashi Yamada, Takao Terano 
(2015); SEC Staff of the Division of Trading and Markets, Equities 
Market Structure Literature Review Part II: High Frequency Trading 
(Mar. 18, 2014). These passive and aggressive strategies are often 
referred to as ``liquidity providing'' and ``liquidity demanding'' 
or ``liquidity taking'' strategies respectively. See, e.g., 
Algorithmic Trading Staff Report. Under the Proposed Rules, both 
passive and aggressive trading strategies would be considered forms 
of liquidity provision.
    \129\ See supra note 39.
    \130\ Stock Exchange Regulation: Hearing on H.R. 7852 and H.R. 
8720 Before the Committee on Interstate and Foreign Commerce, 73rd 
Congr. 117 (1934) (statement of Thomas Corcoran). For a discussion 
of ``liquidity providing'' versus ``liquidity demanding'' trading 
strategies, see supra note 128.
---------------------------------------------------------------------------

    The Proposed Rules further define three patterns of buying and 
selling that the Commission views as having the effect of providing 
liquidity, which are discussed in turn below.
i. Routinely Making Roughly Comparable Purchases and Sales of the Same 
or Substantially Similar Securities in a Day
    Under the first enumerated pattern, in proposed Rules 3a44-
2(a)(1)(i) and 3a5-4(a)(1)(i) respectively, a person that, trading for 
its own account, ``routinely mak[es] roughly comparable purchases and 
sales of the same or substantially similar securities in a day'' would 
be engaged in a pattern of trading that ``has the effect of providing 
liquidity to other market participants,'' and therefore be a dealer or 
government securities dealer.\131\
---------------------------------------------------------------------------

    \131\ See, e.g., Amendments to Regulation SHO, Exchange Act 
Release No. 58775, 73 FR 61690, 61699 (Oct. 17, 2008) (``Regulation 
SHO Amendments''), in which the Commission stated that ``[a] pattern 
of trading that includes both purchases and sales in roughly 
comparable amounts to provide liquidity to customers or other 
broker-dealers'' would be one indicia of bona-fide market-making 
activity for purposes of the exceptions in 17 CFR 242.200 through 
242.204 (Regulation SHO) to the locate and close-out requirements. 
The determination of eligibility for the bona-fide market-making 
exceptions is distinct from the determination of whether a person's 
trading activity indicates that such person is acting as a dealer 
under the Proposed Rule. Under the Regulation SHO exception, for 
instance, the broker-dealer must also be providing widely 
disseminated quotations near or at the market and put itself at 
market risk. As the Commission has stated on numerous occasions, the 
determination of whether a particular short sale qualifies for the 
bona-fide market-making exception depends on the particular facts 
and circumstances surrounding the transaction(s). See infra note 
157. Importantly, under the Proposed Rules, a person's intent is 
irrelevant; the Proposed Rules focus on the ``effect'' of a person's 
activity, and where a person's activity ``has the effect of 
providing liquidity,'' whether or not that effect is intended, the 
person would fall within the scope of the Proposed Rules.
---------------------------------------------------------------------------

    ``Routinely'' as used in this standard relates to the frequency 
with which a person engages in making roughly comparable purchases and 
sales of the same or substantially similar securities in a day. Here, 
``routinely'' means more frequent than occasional but not necessarily 
continuous,\132\ such that a person's transactions in roughly 
comparable positions, throughout the day and routinely over time, 
constitute ``[engaging] in a routine pattern of buying and selling 
securities that has the effect of providing liquidity for market 
participants'' under the Proposed Rules. The Commission believes that 
this interpretation of ``routinely'' will separate persons engaging in 
isolated or sporadic securities transactions from persons whose 
regularity of participation in securities transactions demonstrates 
that they are acting as dealers.
---------------------------------------------------------------------------

    \132\ As discussed below in Section III.A.ii, the Commission 
believes it is appropriate to use ``routine,'' rather than 
``regular'' or ``continuous,'' as these standards may fail to 
capture a number of significant firms, due to the unique 
characteristics of certain liquidity providers in today's markets. 
Unlike many traditional types of liquidity providers, there are 
liquidity providers in today's markets, such as PTFs, that despite 
routine participation in the market, may at times interrupt their 
market activity so that it is not always ``continuous.'' The 
Commission adopted a similar approach in connection with its joint 
rulemaking with the Commodity Futures Trading Commission regarding, 
among other things, the definitions of ``swap dealer'' and 
``security-based swap dealer.'' See Entities Adopting Release at 
30609 (``making a market in swaps is appropriately described as 
routinely standing ready to enter into swaps at the request or 
demand of a counterparty. In this regard, `routinely' means that the 
person must do so more frequently than occasionally, but there is no 
requirement that the person do so continuously.'').
---------------------------------------------------------------------------

    As discussed above, the frequency with which a person buys and 
sells securities for its own account is a common component of the 
dealer analysis: More frequent buying and selling is indicative of 
dealer activity.\133\ The first qualitative standard of the Proposed 
Rules describes a regularity of participation far beyond the isolated 
transactions of non-dealers,\134\ and focuses on a pattern of trading 
because the consistency and regularity of their participation indicates 
that their liquidity provision forms a part of a regular business.
---------------------------------------------------------------------------

    \133\ See Section II.A.
    \134\ See SEC v. Justin W. Keener d/b/a JMJ Financial, No. 1:20-
CV-21254 (S.D. Fla. Jan. 21, 2022) (``Case law has established that 
the primary indicia in determining that a person has `engaged in the 
business' within the meaning of the term `dealer' is that the level 
of participation in purchasing and selling securities involves more 
than a few isolated transactions.'' (emphasis added) (quoting 
Sodorff, 1992 WL 224082, at *4)).
---------------------------------------------------------------------------

    Under the Proposed Rules, ``roughly comparable'' would generally 
capture purchases and sales similar enough, in terms of dollar volume, 
number of shares, or risk profile, to permit liquidity providers to 
maintain near market-neutral positions by netting one transaction 
against another transaction. To be ``roughly comparable,'' the dollar 
volume or number of shares of, or risk offset by, the purchases and 
sales need not be exactly the same, as requiring a full netting of 
positions may fail to capture a number of significant firms, due to the 
unique characteristics of certain liquidity providers in today's 
markets.\135\ Instead, ``roughly comparable'' purchases and sales would 
fall within a reasonable range that generally would have the effect of 
offsetting one transaction against the other. Generally speaking, 
although the Proposed Rules do not provide a bright-line test in 
connection with the qualitative factors, the Commission believes that a 
person that closes or offsets, in the same day, the overwhelming 
majority of the positions it has opened, has likely made ``roughly 
comparable purchases and sales.'' \136\ This proposed standard would 
capture a fundamental aspect of both the traditional dealer--who ``buys 
securities . . . with a view to disposing them elsewhere'' and 
``receives no brokerage commission but relies for his compensation upon 
a favorable difference or spread between the price at which he buys and 
the amount for which he sells'' \137\--and the liquidity provider whose 
trading strategies generally involve frequent turnover of positions on 
a short-term basis, with overnight holdings of unhedged positions that 
are a fraction of their overall intraday positions.\138\
---------------------------------------------------------------------------

    \135\ See, e.g., 2002 Release (focusing, among other things, on 
a ``regular turnover of inventory'' rather than requiring completely 
neutral positions).
    \136\ The Proposed Rules do not provide a bright-line test to 
determine ``roughly comparable'' purchases and sales. However, for 
purposes of the Economic Analysis of the Proposed Rules, the 
Commission assumes a daily buy-sell imbalance between two identical 
or substantially similar securities, in terms of dollar volume, 
below 10 percent or, alternatively, 20 percent may be indicative of 
purchases and sales that are ``roughly comparable,'' as described 
below in Section V.B.2.c. The Commission has requested comment on 
whether this approach is appropriate and whether this standard 
should include a trading threshold.
    \137\ See U.S. Securities and Exchange Commission, Report on the 
Feasibility and Advisability of the Complete Segregation of the 
Functions of Dealer and Broker XIV (1936).
    \138\ See 2010 Equity Market Structure Concept Release at 3607-
09. See also 2015 Joint Staff Report.

---------------------------------------------------------------------------

[[Page 23067]]

    The Proposed Rules reflect the statutory distinction between 
``dealers'' and ``traders.'' The Commission has long distinguished 
dealer activity from trader activity by focusing on, among other 
things, a dealer's frequent turnover of positions--stating, for 
example, that the dealer ``sells securities . . . he has purchased or 
intends to purchase elsewhere or buys securities . . . with a view to 
disposing of them elsewhere'' \139\--as well as the frequency with 
which a person buys and sells.\140\ By targeting persons who routinely 
make roughly comparable purchases and sales of the same or 
substantially similar securities, the Proposed Rules identify persons 
whose trading has the effect of providing liquidity that requires 
dealer registration, and so distinguish those persons who are acting as 
traders.\141\
---------------------------------------------------------------------------

    \139\ See U.S. Securities and Exchange Commission, Report on the 
Feasibility and Advisability of the Complete Segregation of the 
Functions of Dealer and Broker XIV (1936).
    \140\ See Section II.A.
    \141\ See Section I.
---------------------------------------------------------------------------

    The Proposed Rules take into account the speed at which technology 
permits liquidity providers today to turn over their positions and the 
fact that high-speed, anonymous trading platforms allow liquidity 
providers to act as intermediaries without customers and without 
holding an inventory of securities.\142\ In addition, the Proposed 
Rules take into consideration the frequency with which a person buys 
and sells securities, which is a factor historically considered as part 
of the dealer analysis.\143\ Because they are based on activity, the 
Proposed Rules would cover not only PTFs, but also any other persons 
engaging in the identified activities.
---------------------------------------------------------------------------

    \142\ See, e.g., Stock Exchange Regulation: Hearing on H.R. 7852 
and H.R. 8720 Before the Committee on Interstate and Foreign 
Commerce, 73rd Congr. 117 (1934) (statement of Thomas Corcoran) 
(discussing floor traders, which have long been viewed as dealers). 
As the markets have evolved, the role of floor traders has largely 
been replaced by PTFs, which play a role--albeit, electronically and 
through the use of algorithmic trading strategies--similar to that 
of the floor traders that traditionally have been regulated as 
dealers. See 2010 Equity Market Structure Concept Release at 3607-
08.
    \143\ See Section II.A.
---------------------------------------------------------------------------

    Paragraph (a)(1)(i) of the Proposed Rules would also provide that 
the securities bought and sold must be ``the same or substantially 
similar'' in order to further distinguish liquidity providing dealer 
activity from non-dealer trader activity. As discussed above, routinely 
making roughly comparable purchases and sales of securities keeps a 
liquidity provider's market positions near neutral only to the extent 
that a sale or another trade offsets the risk taken on through a 
purchase. For purposes of the rule, ``the same'' securities means that 
the securities bought and sold are securities of the same class and 
having the same terms, conditions, and rights.\144\ Securities bearing 
the same Committee on Uniform Securities Identification Procedures 
(``CUSIP'') number, for example, would be considered ``the same.'' In 
addition, the determination of what would constitute ``substantially 
similar'' securities for purposes of the rule would be based on the 
facts and circumstances analysis that would take into account factors 
such as, for example, whether: (1) The fair market value of each 
security primarily reflects the performance of a single firm or 
enterprise or the same economic factor or factors, such as interest 
rates; and (2) changes in the fair market value of one security are 
reasonably expected to approximate, directly or inversely, changes in, 
or a fraction or a multiple of, the fair market value of the second 
security. A person routinely making roughly comparable purchases and 
sales of the same or substantially similar securities, such that the 
sale or purchase of one security offsets the risk associated with the 
sale or purchase of the other, permitting that person to maintain a 
near market-neutral position, would meet this aspect of this standard.
---------------------------------------------------------------------------

    \144\ See 17 CFR 227.300(b)(2) (Rule 300(b)(2) of Regulation 
Crowdfunding) (permitting an intermediary to have a financial 
interest in an issuer if, among other things, the financial interest 
consists of securities of the same class and having the same terms, 
conditions and rights as the securities being offered and sold on 
the intermediary's platform.).
---------------------------------------------------------------------------

    Applying these principles, the Commission believes that the 
following are nonexclusive examples of purchases and sales of 
``substantially similar'' securities:
     Selling a Treasury security and buying another Treasury 
security in the same maturity range, as used by the Federal Reserve 
Bank of New York's Open Market Operations.\145\ For example, selling a 
4.5-year Treasury security and buying a 5-year Treasury security, or a 
9.5 year Treasury security versus a 10-year Treasury security.
---------------------------------------------------------------------------

    \145\ See Federal Reserve Bank of New York, ``FAQs: Treasury 
Purchases,'' https://www.newyorkfed.org/markets/treasury-reinvestments-purchases-faq.
---------------------------------------------------------------------------

     Buying an exchange traded fund and selling the underlying 
securities that make up the basket of securities held by the exchange 
traded fund that was purchased.
     Buying a European call option on a stock and selling a 
European put option on the same stock with the same strike and 
maturity.
     Buying an OTC call option on a stock and selling a listed 
option on the same stock with the same strike and maturity.
    Conversely, the Commission believes that the following are examples 
of purchases and sales of securities that are not ``substantially 
similar'':
     Buying stock in one company (e.g., Ford) and selling stock 
in another company in the same industry (e.g., Chrysler).
     Buying stock and selling bonds issued by the same company.
     Buying cash Treasury securities and selling Treasury 
futures.
    Finally, the standard under paragraph (a)(1)(i) of the Proposed 
Rules would apply with respect to purchases and sales made ``in a 
day.'' As discussed above, dealer liquidity providers are 
distinguishable, in part, from traders and other market participants by 
the frequent turnover of their positions. Traditional dealers often 
hold an inventory to enable them to buy from one market participant and 
sell to another. Technological advancements have increased the speed at 
which this process happens, eliminating in some cases the need to carry 
a traditional inventory at all, as liquidity providers are able to 
source and unload securities extremely rapidly. The Commission believes 
that a temporal component is necessary in paragraph (a)(1)(i) to 
distinguish dealer liquidity providers from other market participants 
who may contribute liquidity to the market periodically but not in the 
repeated, routine--and often relied upon--manner of liquidity 
providers. The Commission believes that ``in a day'' is a period of 
sufficient duration to capture the trading activity typical of dealer 
liquidity providers that are the focus of the Proposed Rules, and still 
brief enough to exclude non-dealers pursuing longer-term investment 
strategies. In addition, because PTFs tend to turn over their positions 
over the course of a day, ``end[ing] the day with little net 
directional exposure,'' \146\ market practices support drawing the 
temporal line at the end of the day.
---------------------------------------------------------------------------

    \146\ See 2021 IAWG Joint Staff Report at 5.
---------------------------------------------------------------------------

ii. Routinely Expressing Trading Interests That Are at or Near the Best 
Available Prices on Both Sides of the Market and That Are Communicated 
and Represented in a Way That Makes Them Accessible to Other Market 
Participants
    Proposed Rules 3a44-2(a)(1)(ii) and 3a5-4(a)(1)(ii) set forth the 
second

[[Page 23068]]

pattern of trading activity that ``has the effect of providing 
liquidity to other market participants.'' Specifically, under paragraph 
(a)(1)(ii), a person buying and selling for its own account that 
``routinely express[es] trading interests that are at or near the best 
available prices on both sides of the market and that are communicated 
and represented in a way that makes them accessible to other market 
participants'' would be engaged in a pattern of trading in securities 
or government securities that ``has the effect of providing liquidity 
to other market participants,'' and therefore would be a dealer or 
government securities dealer under the Proposed Rules. As discussed 
below, the Proposed Rules would update the longstanding understanding 
that regular or continuous quotation is a hallmark of market making or 
de facto market making (and, hence, dealer) activity,\147\ to reflect 
technological changes to the ways in which buyers and sellers of 
securities are brought together.
---------------------------------------------------------------------------

    \147\ The term ``market maker'' includes, among other things, 
``any dealer who, with respect to a security, holds itself out (by 
entering quotations in an inter-dealer quotation system or 
otherwise) as being willing to buy and sell such security for its 
own account on a regular or continuous basis.'' See 15 U.S.C. 
78c(a)(38). Moreover, the Commission has stated previously that a 
market maker engaged in bona-fide market making is a ``broker-dealer 
that deals on a regular basis with other broker-dealers, actively 
buying and selling the subject security as well as regularly and 
continuously placing quotations in a quotation medium on both the 
bid and ask side of the market.'' See, e.g., Exchange Act Release 
No. 32632 (July 14, 1993), 58 FR 39072, 39074 (July 21, 1993).
---------------------------------------------------------------------------

    The Proposed Rules would apply when a person ``routinely'' 
expresses trading interests. Here, as well as in paragraph (a)(1)(i), 
``routinely'' means that the person must express trading interests more 
frequently than occasionally, but not necessarily continuously.\148\ As 
discussed above in connection with paragraph (a)(1)(i), ``routinely'' 
relates to the frequency of the activity both intraday and across time, 
and means both repeatedly within a day and on a regular basis over 
time. The Commission believes it is appropriate to use ``routinely,'' 
rather than ``regular'' or ``continuous,'' as the latter standards may 
fail to capture a number of significant firms, due to the unique 
characteristics of certain liquidity providers in today's markets. 
Specifically, by using ``routinely,'' the Proposed Rules are intended 
to reflect market evolution to capture significant liquidity providers 
who express trading interests at a high enough frequency to play a 
significant role in price discovery and the provision of market 
liquidity, even if their liquidity provision may not be continuous like 
that of some traditional dealers. At the same time, they are very 
active in the markets--their participation is very routine--as 
demonstrated by the ``key role'' they play ``in price discovery and the 
provision of market liquidity'' in both the interdealer U.S. Treasury 
market \149\ and the equity markets.\150\
---------------------------------------------------------------------------

    \148\ See, e.g., Entities Adopting Release at 30609 (``In this 
regard, `routinely' means that the person must do so more frequently 
than occasionally, but there is no requirement that the person do so 
continuously.'').
    \149\ 2021 IAWG Joint Staff Report at 5, 13.
    \150\ See, e.g., Algorithmic Trading Staff Report; 2010 Equity 
Market Structure Concept Release.
---------------------------------------------------------------------------

    Paragraph (a)(1)(ii) would also use the term ``trading interest'' 
rather than ``quotations.'' The Commission has recently proposed to 
define ``trading interest'' to mean ``an order, as defined in paragraph 
(e) of [Rule 300 of Regulation ATS],\151\ or any non-firm indication of 
a willingness to buy or sell a security that identifies at least the 
security and either quantity, direction (buy or sell), or price.'' 
\152\ Technological advancements have proliferated methods by which 
market participants hold themselves out as willing to buy or sell 
securities, or otherwise communicate their willingness to trade. The 
broader term ``trading interest'' would reflect the prevalence of non-
firm trading interest offered by market places today,\153\ and account 
for the varied ways in which developing technologies permit market 
participants to effectively make markets. The broader term 
appropriately captures the traditional quoting engaged in by dealer 
liquidity providers, new and developing quoting equivalents, and the 
orders that actually result in the provision of liquidity that the 
Commission intends the Proposed Rules to address. Using ``trading 
interest,'' as defined above, rather than ``quotation'' will allow for 
clear and consistent application of the definition of dealer and 
government securities dealer.
---------------------------------------------------------------------------

    \151\ 17 CFR 242.300(e) defines an ``order'' to mean ``any firm 
indication of a willingness to buy or sell a security, as either 
principal or agent, including any bid or offer quotation, market 
order, limit order, or other priced order.''
    \152\ See 2022 ATS Proposing Release, proposed Rule 300(q). In 
proposing this new term, the Commission noted the incidence of 
``non-firm trading interest that includes the symbol and one of the 
following: quantity, direction, or price. . . . The Commission 
believes that . . . the use of a message that identifies the 
security and either the quantity, direction, or price would provide 
sufficient information to bring together buyers and sellers of 
securities because it allows a market participant to communicate its 
intent to trade and a reasonable person receiving the information to 
decide whether to trade or engage in further communications with the 
sender.'' Id. at 15505.
    \153\ See 2022 ATS Proposing Release at 15500-15502.
---------------------------------------------------------------------------

    Further, the Commission is proposing that the rules encompass 
trading interests expressed ``at or near the best available prices on 
both sides of the market.'' \154\ The phrase ``best available prices on 
both sides of the market'' more specifically and clearly describes the 
activity of liquidity-providing dealers, which help determine the 
spread between the best available bid price and the best available ask 
price for a given security. Among other market benefits, by competing 
to both buy and sell at the best available prices, liquidity providers 
help to narrow bid-ask spreads.\155\ The Commission further believes 
that the proposed formulation helps emphasize that a liquidity 
provider, to come within the rule, must both buy and sell 
securities.\156\
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    \154\ See, e.g., Regulation SHO Amendments, in which the 
Commission stated that quotations near or at the market for a short 
sale in a security may provide an indication of bona-fide market 
making for purposes of Regulation SHO, depending on the facts and 
circumstances surrounding the activity. See also supra note 131.
    \155\ See, e.g., Prohibitions and Restrictions on Proprietary 
Trading, Release No. BHCA-1; File No. S7-41-11 (Dec. 10, 2013), 79 
FR 5535, 5585-86 (Jan. 31, 2014), available at https://www.sec.gov/rules/final/2013/bhca-1.pdf (setting forth, among other things, the 
circumstances in which a banking entity may engage market making-
related activities) (``Volcker Rule Adopting Release'') at 177.
    \156\ See, e.g., 15 U.S.C. 78c(a)(5) (``The term `dealer' means 
any person engaged in the business of buying and selling 
securities'' (emphasis added)); see also 15 U.S.C. 78c(a)(44).
---------------------------------------------------------------------------

    Finally, the Proposed Rules would apply only when these trading 
interests that are at or near the best available prices on both sides 
of the market are ``communicated and represented in a way that makes 
them accessible to other market participants.'' Under the Proposed 
Rules, a market participant that routinely makes these trading 
interests available to other market participants would be considered to 
have engaged in a routine pattern of trading that has the effect of 
providing liquidity to other market participants.\157\
---------------------------------------------------------------------------

    \157\ See, e.g., Regulation SHO Amendments (``Continuous 
quotations that are at or near the market on both sides and that are 
communicated and represented in a way that makes them widely 
accessible to investors and other broker-dealers are also an 
indication that a market maker is engaged in bona-fide market making 
activity.''). But see supra note 131 (explaining that the 
determination of eligibility for Regulation SHO's bona-fide market-
making exceptions is distinct from the determination of whether a 
person's trading activity indicates that such person is acting as a 
dealer under the Proposed Rule). The Commission further notes that 
the bona-fide market-making exceptions under Regulation SHO are only 
available to registered broker-dealers that publish continuous 
quotations for a specific security in a manner that puts the broker-
dealer at economic risk. Broker-dealers that do not publish 
continuous quotations, or publish quotations that do not subject the 
broker-dealer to such risk (e.g., quotations that are not publicly 
accessible, are not near or at the market, or are skewed 
directionally towards one side of the market), would not be eligible 
for the bona-fide market-maker exceptions under Regulation SHO. In 
addition, broker-dealers that publish quotations but fill orders at 
different prices than those quoted would not be engaged in bona-fide 
market making for purposes of Regulation SHO.

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[[Page 23069]]

iii. Earning Revenue Primarily From Capturing Bid-Ask Spreads, by 
Buying at the Bid and Selling at the Offer, or From Capturing Any 
Incentives Offered by Trading Venues to Liquidity-Supplying Trading 
Interests
    Proposed Rules 3a44-2(a)(1)(iii) and 3a5-4(a)(1)(iii) set forth the 
final enumerated pattern of activity that ``has the effect of providing 
liquidity to other market participants.'' Under paragraph (a)(1)(iii) 
of each rule, a person that, trading for its own account, ``earn[s] 
revenue primarily from capturing bid-ask spreads, by buying at the bid 
and selling at the offer, or from capturing any incentives offered by 
trading venues to liquidity-supplying trading interests,'' would be 
engaging in a routine pattern of trading that has the effect of 
providing liquidity to other market participants, and as a result, 
would be a dealer under the Proposed Rules.
    As with other aspects of the Proposed Rules, this standard focuses 
on activity rather than label or status. The Proposed Rules would apply 
to any person regardless of whether the person labels itself, or is 
commonly known as, a PTF.
    As discussed above, one fundamental characteristic typical of 
market makers and liquidity providers--and one that has historically 
been viewed as dealer activity--is trading in a manner designed to 
profit from spreads or liquidity incentives, rather than with a view 
toward appreciation in value.\158\ The Commission has previously 
identified a person's seeking, through its presence in the market, 
compensation through spreads or fees, or other compensation not 
attributable to changes in the value of the security traded, as a 
factor indicating dealer activity.\159\ Dealer liquidity providers 
frequently are distinguishable from other market participants whose 
trades arguably ``provide liquidity'' inasmuch as dealers seek to be 
compensated for the service of contributing to a market's liquidity, 
whether by bid-ask spreads or liquidity incentives. They are ``in the 
business'' of providing liquidity because they routinely supply it and 
the revenue they earn as a result through bid-ask spreads or liquidity 
incentives is their primary source of revenue.
---------------------------------------------------------------------------

    \158\ See, e.g., U.S. Securities and Exchange Commission, Report 
on the Feasibility and Advisability of the Complete Segregation of 
the Functions of Dealer and Broker XIV (1936) (``The dealer . . . 
receives no brokerage commission but relies for his compensation 
upon a favorable difference or spread between the price at which he 
buys and the amount for which he sells.''). See also Entities 
Adopting Release at 30609 (``seeking to profit by providing 
liquidity to the market is an indication of dealer [as opposed to 
trader] activity'').
    \159\ See Entities Adopting Release at 30617 (identifying as an 
indication of dealer activity which is consistent with the 
definition's ``regular business'' requirement, ``seeking 
compensation in connection with providing liquidity . . . by seeking 
a spread, fees or other compensation not attributable to changes in 
the value of the [security itself]''). With respect to bid-ask 
spreads, the connection between liquidity provision and bid-ask 
spreads is evident in the relationship among high volume, liquidity, 
and bid-ask spreads: Because high volume can reduce a dealer's 
overhead, high volume tends to make liquidity provision more 
profitable; as liquidity provision becomes more profitable, more 
persons compete to provide liquidity, and this increased competition 
tightens bid-ask spreads, as the more competitive liquidity 
providers are willing to be compensated less for the liquidity they 
provide in order to compete. See Section V.C.3.c. See also Volcker 
Rule Adopting Release at 177 (``[L]iquidity provides important 
benefits to the financial system, as more liquid markets are 
characterized by competitive market makers, narrow bid-ask spreads, 
and frequent trading.''). Notably, a person may be acting as a 
dealer by profiting from a spread even if they are not profiting 
from ``bid-ask spreads'' under the Proposed Rules. See, e.g., River 
North, 415 F. Supp. at 859 (discussing Sodorff, 1992 WL 224082, at 
*5).
---------------------------------------------------------------------------

    Both forms of revenue are accounted for in the Proposed Rules. The 
first--capturing bid-ask spreads--is done by buying at the bid and 
selling at the offer, which would include buying at a lower price than, 
and selling at a higher price than, the midpoint of the bid-ask spread. 
The spread between these prices compensates them for providing the 
service of liquidity--that is, of generally standing ready to buy or 
sell and enabling other market participants to reliably make purchases 
and sales. When a liquidity provider routinely buys and sells 
securities in a manner designed to capture a spread with such frequency 
and consistency that its revenue is made up primarily of this form of 
compensation, it will be considered to be engaged in a routine pattern 
of providing liquidity as a service and will fall within the scope of 
the rules.
    The second major source of revenue for market makers and other 
liquidity providers is explicit liquidity-compensation arrangements. 
For example, many exchanges in the equities markets have adopted a 
``maker-taker'' pricing model to compensate (and thereby attract) 
liquidity providers.\160\ Under this model, non-marketable, resting 
orders that offer (make) liquidity at a particular price receive a 
liquidity rebate if they are executed, while incoming orders that 
execute against (take) the liquidity of resting orders are charged an 
access fee.\161\ When a liquidity provider, as a result of its routine 
purchases and sales of securities, captures ``incentives offered by 
trading venues to liquidity-supplying trading interests'' with such 
frequency and consistency that its revenue is made up primarily of this 
form of compensation, it will be considered to be engaged in a routine 
pattern of providing liquidity as a service and generally standing 
ready to buy or sell securities, so would fall within the scope of the 
Proposed Rules.
---------------------------------------------------------------------------

    \160\ See 2010 Equity Market Structure Concept Release at 3599.
    \161\ See 2010 Equity Market Structure Concept Release at 3599. 
Highly automated exchange systems and liquidity rebates have 
contributed to the rise of PTFs that focus on liquidity provision. 
Id.
---------------------------------------------------------------------------

    To come within this paragraph of the Proposed Rules, a liquidity 
provider would have to earn its revenue primarily from bid-ask spreads 
or trading incentives. The Proposed Rules use the phrase ``earn 
revenue''--rather than, for example, ``profit from''--to make clear 
that a person's trading strategies would not need to be profitable to 
bring them within the rule because a market participant can provide 
liquidity without being profitable. Furthermore, under the Proposed 
Rules, a person whose revenue is derived ``primarily'' from capturing 
bid-ask spreads or liquidity incentives, or a combination of the two, 
would be a liquidity provider that is engaged in the regular business 
of buying and selling securities for its own account and, as a result, 
a dealer or government securities dealer. Generally speaking, although 
the Proposed Rules do not provide a bright-line test in connection with 
the qualitative factors, the Commission believes that if a person 
derives the majority of its revenue from the sources described in 
paragraph (a)(3)(iii), it would likely be in a regular business of 
buying and selling securities or government securities for its own 
account.
    Finally, the paragraph would apply with respect to activity on 
``trading venues.'' The Commission has recently proposed to define the 
term ``trading venue'' to mean ``a national securities exchange or 
national securities association that operates an SRO trading facility, 
an ATS, an exchange market maker, an OTC market maker, a futures or 
options market, or any other broker- or dealer-operated platform for 
executing trading interest internally by trading as principal or 
crossing orders as agent.'' \162\
---------------------------------------------------------------------------

    \162\ 2022 ATS Proposing Release at 15540.
---------------------------------------------------------------------------

    Market evolution has given rise to a variety of venues in which 
liquidity providers can express trading interests,

[[Page 23070]]

and the definition is designed to capture the breadth of these 
different venues. For example, Communication Protocol Systems, which 
are electronic systems that offer the use of non-firm trading interest 
and make available communication protocols to bring together buyers and 
sellers of securities but do not fall within the current definition of 
an ``exchange'' under Federal securities laws, have come to perform the 
function of a market place and become a preferred method for market 
participants to discover prices, find counterparties, and execute 
trades.\163\ The Proposed Rules are designed to capture dealer activity 
wherever that activity occurs, whether on a national securities 
exchange, an ATS, a Communication Protocol System, or another form of 
trading venue. For purposes of the Proposed Rules, the particular 
trading venue matters less than the fact that a market participant 
provides liquidity on it. Using the broad term ``trading venue,'' as 
defined above, will allow for clear and consistent application of the 
definitions of dealer and government securities dealer.
---------------------------------------------------------------------------

    \163\ See 2022 ATS Proposing Release at 15496 n.5 and 15501. 
This is particularly true for government securities and other fixed 
income securities. Id.
---------------------------------------------------------------------------

Request for Comment
    The Commission generally requests comment on these provisions of 
the Proposed Rules. In addition, the Commission requests comments on 
the following specific issues:
    9. Is there sufficient specificity provided for the terms used in 
the qualitative standards? Are there any terms that should be defined 
in rule text or addressed in the release?
     Is there sufficient specificity provided for the term 
``pattern''? If not, what additional specificity should the Commission 
provide and please provide specific examples on the types of 
specificity. Should the rule text define what is meant by ``pattern''? 
Why or why not? Is the Proposed Rules' use of ``pattern'' appropriate? 
Would ``manner'' or another word be more appropriate? Why or why not?
     Is there sufficient specificity provided for the term 
``effect of providing liquidity''? If not, what additional specificity 
should the Commission provide and please provide specific examples on 
the types of specificity. Should the rule text define what is meant by 
``effect of providing liquidity''? Why or why not? Is the Proposed 
Rules' use of ``effect of providing liquidity'' appropriate? Would 
replacing ``effect of providing liquidity'' with ``market making'' be 
more appropriate? Are there other words that would more appropriate? 
Why or why not?
     Is there sufficient specificity provided for the term 
``primarily''? Should the rule text define what is meant by 
``primarily''? Why or why not? Is the Proposed Rules' use of 
``primarily'' appropriate? Would ``mostly'' or another word be more 
appropriate? Why or why not?
     Is there sufficient specificity provided for the term 
``trading venue''? If not, what additional specificity should the 
Commission provide and please provide specific examples on the types of 
specificity. Should the rule text define what is meant by ``trading 
venue''? Why or why not? Is the Proposed Rules' use of ``trading 
venue'' appropriate? Are there other words that would be more 
appropriate? Why or why not?
    10. Is liquidity provision an appropriate factor to use in defining 
which buying and selling activity for one's own account qualifies as 
``regular business''? Are there other factors the Commission should 
include? If so, which factors and why? Are there trading activities or 
investment strategies that should not be considered providing 
liquidity? If so, please describe why.
    11. Are the three qualitative factors identified in the Proposed 
Rules as having the ``effect of providing liquidity to other market 
participants'' that would qualify as ``regular business'' appropriate? 
Are there any other forms of liquidity provision, or any other factors, 
that the Commission should include or exclude instead or in addition to 
those proposed? Are the factors over or under-inclusive? If so, please 
provide specific examples of any alternative suggestions.
     For example, should the Commission include as an example 
of a ``liquid market,'' ``a market in which participants have the 
ability to readily trade at a predictable price and in a desired size 
without materially moving the market''? Why or why not?
     In addition to passive ``liquidity providing'' trading 
strategies, the Proposed Rules would capture certain aggressive 
``liquidity demanding'' strategies as having the ``effect of providing 
liquidity to other market participants''? Is this appropriate? Why or 
why not?
    12. Under the Proposed Rules, a person routinely making roughly 
comparable purchases and sales of the same or substantially similar 
securities in a day would have the effect of providing liquidity to 
other market participants, and therefore would be a dealer. Is this an 
appropriate measure or illustration of liquidity provision? Why or why 
not? Would the provision capture persons that should not be dealers? If 
so, who and why?
     For example, would the Proposed Rules capture private 
funds and other persons pursing investment strategies such as relative 
value fixed income arbitrage or share class arbitrage? If so, should 
such strategies be included or excluded? Why or why not?
     Is there sufficient specificity to determine which 
securities would be considered ``same'' or ``substantially similar''? 
Why or why not? If not, what additional specificity should the 
Commission provide and please provide specific examples on the types of 
specificity. Should additional or different factors be considered? Are 
there other words that would be more appropriate? Why or why not?
     Should the rule text define what is meant by ``same'' or 
``substantially similar''? Why or why not?
     Are there other types of purchase and sale transactions 
that would be examples of purchases and sales of securities that are 
``substantially similar'' (i.e., other types of roughly comparable 
purchases and sales of substantially similar securities, such that the 
sale or purchase of one security offsets the risk associated with the 
sale or purchase of the other, permitting a person to maintain a near 
market-neutral position)? Are there examples of types of purchase and 
sale transactions involving derivatives, or other products that 
represent the economic equivalent of another security, that would be 
purchases and sales of securities that are ``substantially similar''? 
Please explain.
    13. Although the Proposed Rules do not provide a bright-line test 
to determine ``roughly comparable'' purchases and sales, depending on 
the facts and circumstances, the Commission believes a daily buy-sell 
imbalance, as described below in Section V.B.2.c., between two 
identical or substantially similar securities, in terms of dollar 
volume below 20 percent may be indicative of purchases and sales that 
are ``roughly comparable.'' Is this an appropriate measurement of 
``roughly comparable''? Why or why not? Would another measurement be 
more appropriate? Should there be a minimum trading volume or dollar 
amount threshold as part of the qualitative standard under paragraph 
(a)(1)(i), daily buy-sell imbalance, or other measurement?
     Is there sufficient specificity provided for the term 
``roughly comparable''? Why or why not? If not,

[[Page 23071]]

what additional specificity should the Commission provide and please 
provide specific examples on the types of specificity. Is the Proposed 
Rules' use of ``roughly comparable'' appropriate? Are there other words 
that would be more appropriate? Why or why not?
     Should the rule text define, as opposed to the release 
addressing, what is meant by ``roughly comparable''? Why or why not?
     Does there need to be more specificity provided as to how 
many transactions must be executed (or positions opened and/or closed) 
in a day to be ``roughly comparable''?
     Is ``in a day'' an appropriate period of time during which 
to measure whether a person has made roughly comparable purchases and 
sales of the same or substantially similar securities? If not, what is 
an appropriate time period?
     If an institutional investor seeks to rebalance its 
portfolio, would the institutional investor typically ``routinely make 
roughly comparable purchases and sales of the same or substantially 
similar securities in a day,'' or otherwise trigger the Proposed Rules?
    14. Under the Proposed Rules, a person that ``routinely express[es] 
trading interests that are at or near the best available prices on both 
sides of the market and that are communicated and represented in a way 
that makes them accessible to other market participants'' would have 
the effect of providing liquidity to other market participants, and 
thus would be a dealer. Is this an appropriate measure or illustration 
of liquidity provision? Why or why not? Would the provision capture 
persons that should not be dealers? If so, who and why?
     Is the Proposed Rules' use of ``routinely'' appropriate? 
Would ``regularly'' or ``continuously'' or another word be more 
appropriate? Why or why not?
     Is there sufficient specificity provided for the term 
``routinely''? If not, what additional specificity should the 
Commission provide and please provide specific examples on the types of 
specificity. Should the rule text define what is meant by 
``routinely''? Why or why not?
     Is the Proposed Rules' use of ``trading interest'' 
appropriate? Would ``quotations'' or another term be more appropriate? 
Why or why not?
     Is there sufficient specificity provided for the term 
``trading interest''? Should the rule text define what is meant by 
``trading interest''? Why or why not? If not, what additional 
specificity should the Commission provide and please provide specific 
examples on the types of specificity.
     The Proposed Rules would require that trading interests be 
communicated and represented in a way that makes them accessible to 
other market participants in order to come within the rule. Should the 
Commission require that the trading interests be communicated 
``widely''? Why or why not?
    15. Under the Proposed Rules, a person that ``earn[s] revenue 
primarily from capturing bid-ask spreads, by buying at the bid and 
selling at the offer, or from capturing any incentives offered by 
trading venues to liquidity-supplying trading interest,'' would have 
the effect of providing liquidity to other market participants. Is this 
an appropriate measure or illustration of liquidity provision? Why or 
why not? Would the provision capture persons that should not be 
dealers? If so, who and why?
     Is there sufficient specificity provided for the term 
``earn revenue''? If not, what additional specificity should the 
Commission provide and please provide specific examples on the types of 
specificity. Is the Proposed Rules' use of ``earn revenue'' 
appropriate? Are there other words that would be more appropriate? Why 
or why not? Should the rule text define what is meant by ``earn 
revenue''? Why or why not?
     Should the Proposed Rules include additional or other 
forms of revenue?
     Should the Proposed Rules include other measures of 
liquidity provision? If so, what measures and why?
     As explained above, buying at the bid and selling at the 
offer would include buying at lower than, and selling at higher than, 
the midpoint of the bid-ask spread. Should the rule text define 
``capturing bid-ask spread'' to expressly include buying at lower than, 
and selling at higher than, the midpoint of the bid-ask spread?
    16. Do the Proposed Rules provide sufficient specificity to permit 
market participants to distinguish between revenue derived from 
capturing bid-ask spreads and revenue derived from realization of 
appreciation of the underlying asset?

C. Quantitative Standard

    In addition to the qualitative standards described above, proposed 
Rule 3a44-2 would also include a quantitative standard that would 
establish a bright-line test under which persons engaging in certain 
specified levels of activity in the U.S. Treasury market would be 
defined to be buying and selling securities ``as a part of a regular 
business,'' regardless of whether they meet any of the qualitative 
standards. Specifically, proposed Rule 3a44-2(a)(2) would provide that 
a person \164\ that is engaged buying and selling government securities 
for its own account is engaged in such activity ``as a part of a 
regular business'' if that person in each of four out of the last six 
calendar months, engaged in buying and selling more than $25 billion of 
trading volume in government securities as defined in Section 
3(a)(42)(A) of the Exchange Act.\165\
---------------------------------------------------------------------------

    \164\ In light of the statutory definition of ``person,'' in 
conjunction with the proposed definitions of ``own account'' and 
``control,'' as discussed in Section III.D, trading volume would be 
determined by aggregating volume at the firm or legal-entity level 
(rather than market participant identifier (``MPID'') or global firm 
level). See 15 U.S.C. 78c(a)(9).
    \165\ Proposed Rule 3a44-2(a)(2) only applies to government 
securities as defined in Section 3(a)(42)(A) of the Exchange Act. 
Accordingly, the trading volume threshold set forth in the proposed 
rule does not apply to all government securities as defined by 
Section 3(a)(42); but rather, it is limited to ``securities which 
are direct obligations of, or obligations guaranteed as to principal 
or interest by, the United States'' (``U.S. Treasury Securities''). 
See 15 U.S.C. 78c(a)(42)(A). For purposes of determining whether the 
trading volume threshold is met, a person would include transactions 
in U.S. Treasury Securities--that is, Treasury bills, notes, 
floating rate notes, bonds, inflation-protected securities 
(``TIPS''), and Separate Trading of Registered Interest and 
Principal Securities (``STRIPS'')--and would exclude auction awards 
and repurchase or reverse repurchase transactions in U.S. Treasury 
Securities. See 2022 ATS Proposing Release at 15542 nn. 512-517 
(describing U.S. Treasury Securities). Additionally, for purposes of 
determining whether the trading volume threshold is met, Treasury 
when-issued transactions would be included.
---------------------------------------------------------------------------

    The Commission believes that four out of the last six calendar 
months is an appropriate range of time to evaluate the trading volume 
of a market participant and should help to ensure the proposed 
quantitative standard does not capture market participants with 
relatively low trading volume that may have had an anomalous increase 
in trading. The proposed time measurement period would smooth monthly 
variations by reducing the effect of trading fluctuations in a 
particular month that could misrepresent or distort a market 
participant's overall trading pattern.\166\ A shorter period of time 
could potentially cause a market participant to fall within the scope 
of the quantitative standard solely as a result of an atypical, short-
term increase in trading, which

[[Page 23072]]

potentially could discourage participation in the U.S. Treasury market 
by a new market participant that has not had as long of a time period 
to develop its business prior to having to incur compliance costs 
associated with being subject to dealer registration. In addition, the 
Commission does not believe that a longer period of time is necessary 
to identify those market participants that play a significant role, and 
regularly transact, in U.S. Treasury Securities. The Commission 
believes that the proposed time measurement period provides sufficient 
trading history data so as to indicate a market participant's 
significance to the market, and that the structure of the measurement 
(i.e., requiring a market participant to meet the threshold for four 
out of the last six calendar months) identifies regularity of such 
significant trading levels.
---------------------------------------------------------------------------

    \166\ This Commission has adopted regulations that use the four 
out of the last six calendar months metric in Regulation ATS, Rules 
301(b)(5) and (6), and Regulation SCI Rule 1000. See 17 CFR 
242.301(b)(5)-(6) (definition of an SCI alternative trading system 
or SCI ATS); see also Regulation Systems Compliance and Integrity, 
Exchange Act No. 73639 (Nov. 19, 2014), 79 FR 72251 (Dec. 5, 2014) 
(noting that time measurement period of four of the preceding six 
months is consistent with the current standard under Regulation 
ATS).
---------------------------------------------------------------------------

    As discussed below, the Commission's analysis of market 
participants that are not members of FINRA in the U.S. Treasury market 
found that these participants accounted for approximately 19 percent of 
the aggregate Treasury trading volume in July 2021, with PTFs 
representing the highest volumes of trading among these 
participants.\167\ In addition, PTFs dominate the interdealer U.S. 
Treasury market, representing 61 percent of the trading activity on the 
electronic IDB platforms and 48 percent of the total interdealer 
market.\168\
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    \167\ See Section V.B.2. Specifically, the analysis identified 
174 market participants who were active in the U.S. Treasury market 
in July 2021 and that were not members of FINRA. Although FINRA 
membership is not synonymous with dealer registration status, the 
Commission believes that many of the market participants who are not 
FINRA members are also likely not registered as government 
securities dealers. These 174 identified non-FINRA member market 
participants accounted for approximately 19 percent of aggregate 
Treasury trading volume in July 2021. PTFs had the highest volumes 
among these identified non-FINRA member U.S. Treasury market 
participants. See Section V.B.2.
    \168\ See supra note 2.
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    Although, as noted previously, the Proposed Rules alone will not 
necessarily prevent future market disruptions, the operation of 
proposed Rule 3a44-2 will support transparency; market integrity and 
resiliency; and investor protection across the U.S. Treasury market by 
helping to close the regulatory gap that currently exists and by 
ensuring consistent regulatory oversight.\169\ The lack of consistent 
visibility across the market today constrains the ability of regulators 
to understand and respond to significant market events. The proposed 
quantitative standard is intended to capture the most significant 
market participants that are regularly buying and selling U.S. Treasury 
Securities, and subject these participants that are not already 
registered as dealers or government securities dealers to a regulatory 
regime designed to minimize the risks they may pose to the U.S. 
Treasury market and provide regulators with appropriate oversight of 
their activities.
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    \169\ For example, regulators do not have the same insight into 
the trading activities of unregistered PTFs because, unlike 
registered dealers, they do not report their U.S. Treasury 
Securities transactions to FINRA's Trading Reporting and Compliance 
Engine (``TRACE''), do not file annual reports with the Commission, 
and are not subject to Commission examinations. See Section V.B.3. 
Market participants that are private funds are generally managed by 
registered investment advisers that file regular financial reports 
with the Commission on Form PF, and are subject to examination 
concerning their private fund clients, but private funds do not 
report securities transactions such as those required by the rules 
governing registered dealers. See id. Transactions in fixed income 
securities, such as U.S. Treasury Securities, are not currently 
reported to the Consolidated Audit Trail (``CAT''). See Section 
V.B.2 (explaining the type of transactions reported to CAT).
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    As described below in Section V, the proposed trading volume 
threshold was derived from analysis of historical U.S. Treasury 
Securities transactions reported to TRACE.\170\ Based on this analysis, 
the Commission is proposing a trading volume amount of $25 billion; 
this quantitative standard would likely capture mostly unregistered 
PTFs, but also may capture certain other significant market 
participants not currently registered as government securities 
dealers.\171\ In determining whether the trading volume threshold is 
met, a market participant would include transactions in U.S. Treasury 
Securities that are currently reported to TRACE-- that is, Treasury 
bills, notes, floating rate notes, bonds, TIPS, and STRIPS--and would 
exclude auction awards and repurchase or reverse repurchase 
transactions in U.S. Treasury Securities.\172\ The proposed 
quantitative standard is intended to be a straightforward threshold 
identifying those market participants that, as a result of their 
regularly high trading volume in government securities, serve dealer-
like roles significantly impacting the U.S. Treasury market. In this 
regard, the Commission believes that setting forth a trading volume 
threshold would provide an easily measurable and observable standard.
---------------------------------------------------------------------------

    \170\ TRACE reporting requirements apply to all marketable U.S. 
Treasury Securities, including Treasury bills, notes, floating rate 
notes, bonds, TIPS, and STRIPS. See FINRA Rule 6700 series. Under 
FINRA Rules, ``Bona fide repurchase and reverse repurchase 
transactions involving TRACE-Eligible Securities'' and ``Auction 
Transactions'' are not reported to TRACE. See FINRA Rule 6730(e).
    \171\ As described in Section V.B.2, the analysis found 46 non-
FINRA member firms with trading volumes of at least $25 billion in 
July 2021. Based on classifications (further explained infra note 
218), of these 46 non-FINRA member firms, 22 are classified as PTFs 
and 20 are classified as dealers. See Section V.B.2, Table 1. To the 
extent a non-FINRA member firm is a financial institution, it would 
not register with the Commission but instead would provide written 
notice of its government securities dealer status with the 
appropriate Federal banking regulator. See Section II; 17 CFR 400.1. 
Additionally, a non-FINRA member firm may be operating in reliance 
on an exception or exemption. See supra note 29 and accompanying 
text.
    \172\ See supra notes 165, 170.
---------------------------------------------------------------------------

    As discussed above, the market structure for U.S. Treasury 
securities has evolved, with PTFs accounting for a large percent of 
trading volume.\173\ In some ways, PTFs have displaced the role of 
traditional dealers in the interdealer U.S. Treasury market, and the 
Commission believes that PTFs, and other market participants that 
similarly have a significantly large, and regular, amount of trading 
volume and have a significant impact on the U.S. Treasury market, 
should register as government securities dealers.\174\ Proposed Rule 
3a44-2(a)(2) is designed to make clear the Commission's view that a 
person engaging in this regular volume of buying and selling activity 
is engaged in the buying and selling of government securities for its 
own account as a part of a regular business, and therefore, should be 
subject to the same regulatory requirements as other dealers.
---------------------------------------------------------------------------

    \173\ See Section II.
    \174\ 2010 Equity Market Structure Concept Release at 3607.
---------------------------------------------------------------------------

    The Commission believes the need for a quantitative rule is most 
acute in the U.S. Treasury market. Thus, while proposed Rules 3a5-4 and 
3a44-2 share common qualitative standards, the Commission is proposing 
a quantitative standard only with respect to the U.S. Treasury market 
at this time. As explained more fully in Section V, the quantitative 
standard is derived from trading data related to the U.S. Treasury 
market, and is intended to identify significant market participants not 
registered as dealers that are performing dealer-like activities in the 
U.S. Treasury market.\175\
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    \175\ The Commission believes that due to the varying 
characteristics of the other securities markets, setting a 
quantitative standard would be more complicated and each market 
would need to be separately assessed before a quantitative threshold 
is set. Accordingly, the Proposed Rules do not set forth a 
comparable quantitative standard for proposed Rule 3a5-4. The 
Commission is seeking comment, however, on whether proposed Rule 
3a5-4 should include a quantitative standard, and if so, how it 
should be established. See Question 26.
---------------------------------------------------------------------------

    The recent disruptions in the U.S. Treasury market referenced 
above, together with the significant role played

[[Page 23073]]

by market participants not registered as dealers, distinguishes that 
market from other markets where these types of participants are more 
typically registered as dealers. Indeed, it is the Commission's 
understanding that in the equity markets, because PTF trading 
strategies typically depend on latency and cost advantages made 
possible by trading directly (via membership) on a national securities 
exchange, and the Exchange Act limits exchange membership to registered 
broker-dealers, there is incentive for many PTFs to register as broker-
dealers to gain these advantages.\176\ In the U.S. Treasury market, 
however, where trading occurs on ATSs and other non-exchange venues, 
PTFs lack this incentive to register.
---------------------------------------------------------------------------

    \176\ See 15 U.S.C. 78f(c)(1) (``A national securities exchange 
shall deny membership to (A) any person, other than a natural 
person, which is not a registered broker or dealer or (B) any 
natural person who is not, or is not associated with, a registered 
broker or dealer.'').
---------------------------------------------------------------------------

Request for Comments
    The Commission generally requests comment on this aspect of 
proposed Rule 3a44-2. In addition, the Commission requests comment on 
the following specific issues:
    17. Is there sufficient specificity provided for the terms used in 
the quantitative standard? Are there any terms that should be defined 
in rule text or addressed in the release?
    18. Is the threshold of more than $25 billion of trading volume in 
each of four out of the last six calendar months an appropriate proxy 
for determining whether a person is engaged in buying and selling U.S. 
Treasury Securities for its own account is engaged in such activity as 
a part of a regular business? Why or why not? If not, what thresholds 
would be appropriate? For example, should the quantitative standard 
include a separate trading volume threshold for: (1) Buying; (2) 
selling; and (3) both buying and selling U.S. Treasury Securities, all 
three of which would be required to be satisfied in order to meet the 
quantitative standard? Commenters should provide data to support their 
views.
    19. Should the Commission apply a different look-back period for 
applying the quantitative threshold from four out of the preceding six 
months to something different? Is the time period measurement of four 
out of the last six calendar months an appropriate metric to evaluate a 
market participant's trading volume? Should the time period be a weekly 
measurement or is there another measurement that would better determine 
whether a person is engaged in buying and selling U.S. Treasury 
Securities for its own account is engaged in such activity as a part of 
a regular business?
    20. Should the look-back period for the quantitative standard take 
into consideration the general auction schedule for U.S. Treasury 
securities? Should the look-back period correspond with the schedule of 
any particular U.S. Treasury security? Why or why not? For example, the 
10-year U.S. Treasury note auctions are usually announced in the first 
half of February, May, August, and November and generally auctioned 
during the second week of these months and are issued on the 15th of 
the same month.\177\ Should the look-back period take into 
consideration these particular months for purposes of the quantitative 
standard? Why or why not? How could the look-back period incorporate 
the auction schedule? Please explain.
---------------------------------------------------------------------------

    \177\ See TreasuryDirect, General Auction Timing, available at 
https://www.treasurydirect.gov/instit/auctfund/work/auctime/auctime.htm.
---------------------------------------------------------------------------

    21. Are there persons that would meet the quantitative standard 
under the proposed rule but that should not be classified as government 
securities dealers (i.e., is the quantitative standard over-
inclusive?). If so, who are they and why should the Commission not 
classify them as government securities dealers?
    22. Are there persons that would not meet the quantitative standard 
under the proposed rule--and would not be otherwise captured by the 
qualitative factors--but that should be classified as government 
securities dealers based on their trading volume (i.e., is the 
quantitative standard under-inclusive)? If so, who are they and why 
should they be classified as government securities dealers?
    23. Should the quantitative standard include an additional standard 
related to routinely expressing trading interests? For example, 
activity related to resting orders on a central-limit order book, or 
expressing trading interest on Communication Protocol Systems? If so, 
what measure of activity, including sources of data and calculation 
methodology, would appropriately identify market participants as 
government securities dealers?
    24. Are there other ways of calculating a quantitative standard, 
such as using a measurement based on turnover (e.g., a turnover ratio) 
rather than volume, or other measurements of significance (e.g., a 
trading volume ratio, net/gross ratio) that would appropriately 
identify market participants as government securities dealers? If so, 
what are they, and why are they relevant in the context of analyzing 
dealer status? Commenters should provide any data or information to 
support their views.
    25. Should the quantitative standard be a dynamic trading volume 
threshold that changes with the market over time, such as percentage of 
transactions reported to TRACE, a percentage of U.S. Treasury 
Securities outstanding or issued, or other inflation-adjusted 
threshold? Why or why not?
    26. Should a quantitative standard be included in proposed Rule 
3a5-4? To the extent a quantitative standard should be included, are 
there ways of calculating the standard for other securities markets? Is 
a trading volume threshold suitable for other types of securities 
markets?
    27. In determining whether the trading volume threshold is met, the 
Commission has indicated that market participants should exclude 
auction awards and repurchase or reverse repurchase transactions. Is 
this exclusion appropriate? Should some or all of these transactions be 
included? Are there other transactions that should be excluded (e.g., 
Treasury when-issued transactions)? Please explain. Should any excluded 
transactions be specifically addressed in rule text? Should there be a 
similar exclusion of these types of transactions for purposes of 
evaluating whether a market participant has met the qualitative 
standards? Are there any types of transactions that should be included 
in calculating the trading volume amount?
    28. Are there market participants that would fluctuate between 
meeting or not meeting the quantitative standard (or qualitative 
standard) (e.g., initially meet the standard, a few months later no 
longer meet the standard, and later meet the standard again)? Would 
this pattern be associated with a particular type of trading such that 
there may be periods in which the participant meets neither the 
quantitative standard nor any qualitative standard?
    29. Are there circumstances in which a person triggering the 
quantitative threshold would not also trigger the proposed qualitative 
standards? Please describe those circumstances in detail. In such case, 
would firms implement compliance systems to monitor trading volumes? Do 
firms have systems in place that already or could easily be programmed 
to monitor for the proposed quantitative threshold? What are the costs 
of implementing such systems or updating existing systems? Would firms 
be incentivized to trade below the proposed quantitative standard to 
avoid registration?

[[Page 23074]]

D. Definitions of ``Own Account'' and ``Control''

    The Exchange Act defines a ``dealer'' or ``government securities 
dealer'' as a person engaged in the business of buying and selling 
securities for its ``own account.'' \178\ The Proposed Rules define a 
person's ``own account'' in a way that recognizes that corporate 
families and entities may be organized in various structures. The 
proposed definitions of ``own account'' and ``control'' are designed to 
focus on the trading activity occurring at the firm or legal-entity 
level or the trading activity that is being employed on behalf of, or 
for the benefit of, the entity, and limit the registration burden to 
those entities engaged in dealer activity. In addition, the proposed 
definitions are intended to avoid incentivizing market participants to 
change their corporate structures for the purpose of avoiding 
registration.
---------------------------------------------------------------------------

    \178\ 15 U.S.C. 78c(a)(5) (``The term `dealer' means any person 
engaged in the business of buying and selling securities . . . for 
such person's own account through a broker or otherwise.'') 
(emphasis added); 15 U.S.C. 78c(a)(44) (``The term `government 
securities dealer' means any person engaged in the business of 
buying and selling government securities for his own account, 
through a broker or otherwise . . .'') (emphasis added).
---------------------------------------------------------------------------

    Under paragraph (b)(2) of the Proposed Rules, a person's ``own 
account'' means any account that is: ``held in the name of that 
person''; or ``held in the name of a person over whom that person 
exercises control or with whom that person is under common control, 
provided that this paragraph (b)(2)(ii) does not include [the accounts 
described in paragraphs (b)(2)(ii)(A)-(C)]''; or ``held for the benefit 
of those persons identified in paragraphs (b)(2)(i) and (ii).'' \179\ 
Paragraphs (b)(2)(ii)(A)-(C) excludes an account in the name of a 
registered broker, dealer, or government securities dealer, or an 
investment company registered under the Investment Company Act of 1940; 
with respect to an investment adviser registered under the Investment 
Advisers Act of 1940, an account held in the name of a client of the 
adviser unless the adviser controls the client as a result of the 
adviser's right to vote or direct the vote of voting securities of the 
client, the adviser's right to sell or direct the sale of voting 
securities of the client, or the adviser's capital contributions to or 
rights to amounts upon dissolution of the client; and with respect to 
any person, an account in the name of another person that is under 
common control with that person solely because both persons are clients 
of an investment adviser registered under the Investment Advisers Act 
of 1940 unless those accounts constitute a parallel account 
structure.\180\
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    \179\ See proposed Rule 3a5-4(b)(2) and proposed Rule 3a44-
2(b)(2).
    \180\ See proposed Rule 3a5-4(b)(2)(ii)(A)-(C) and proposed Rule 
3a44-2(b)(2)(ii)(A)-(C).
---------------------------------------------------------------------------

    With respect to which accounts should be aggregated for purposes of 
paragraph (b)(2)(ii), the Proposed Rules would incorporate the 
definition of ``control'' under Exchange Act Rule 13h-l.\181\ The 
Commission believes that incorporating the established definition of 
``control'' under Exchange Act Rule 13h-l into the Proposed Rules would 
promote consistency and assist persons in applying the definition. The 
Commission further believes that the proposed definition of ``control'' 
is sufficiently limited to capture only those market participants with 
a significant enough controlling interest to warrant registration as a 
dealer.\182\ The proposed definition of ``control'' used in Rule 13h-l 
is appropriate because it is less burdensome than other Commission 
rules defining control, but still achieves the goal of identifying 
persons who exert direct or indirect control over significant market 
participants.\183\ In addition, the Commission believes that this 
definition of control would appropriately deter the structuring of 
corporate relationships or establishment of multiple legal entities to 
avoid the Proposed Rules.
---------------------------------------------------------------------------

    \181\ Exchange Act Rule 13h-l(a)(3) provides that control 
(including the terms controlling, controlled by and under common 
control with) means the possession, direct or indirect, of the power 
to direct or cause the direction of the management and policies of a 
person, whether through the ownership of securities, by contract, or 
otherwise. For purposes of Rule 13h-l only, any person that directly 
or indirectly has the right to vote or direct the vote of 25 percent 
or more of a class of voting securities of an entity or has the 
power to sell or direct the sale of 25 percent or more of a class of 
voting securities of such entity, or in the case of a partnership, 
has the right to receive, upon dissolution, or has contributed, 25 
percent or more of the capital, is presumed to control that entity. 
17 CFR 240.13h-l(a)(3). The definition of ``control'' in Rule 13h-l 
is based on the definition of ``control'' in Form 1 (Application for 
the Registration or Exemption from Registration as a National 
Securities Exchange) and Form BD (Uniform Application for Broker-
Dealer Registration).
    \182\ As noted above, the Commission has applied this standard 
in other contexts. See Large Trader Reporting, Exchange Act Release 
No. 61908 (Apr. 14, 2010), 75 FR 21456, 21461 (Apr. 23, 2010) (``The 
Commission preliminarily believes that the proposed definition of 
control is sufficiently limited to capture only those persons with a 
significant enough controlling interest to warrant identification as 
a large trader.''). The definition of ``control'' in Rules 13h-l and 
on Forms 1 and BD is less expansive than the definition of control 
as used in 17 CFR 240.19h-1 (Rule 19h-1), for example. In Rule 19h-
1(f)(2), the definition of ``control'' features a 10 percent 
threshold with respect to the right to vote 10 percent or more of 
the voting securities or receive 10 percent or more of the net 
profits.
    \183\ The Commission is not incorporating the provision 
contained in the Form 1 and Form BD relating to directors, general 
partners, or officers that exercise executive responsibility. 
Instead, the proposed definition of ``control'' focuses on the 
existence of a corporate control relationship over significant 
market participants.
---------------------------------------------------------------------------

    The Proposed Rules exclude three types of accounts from being 
aggregated with another account for purposes of the definition of ``own 
account.'' First, under paragraph (b)(2)(ii)(A), where an account is 
held in the name of a person who is a registered broker, dealer, 
government securities dealer, or registered investment company 
(collectively, ``registered person''), the Commission believes that it 
would be inappropriate to attribute the registered person's accounts to 
controlling persons or persons under common control, because the 
registered person is already subject to the broker-dealer regulatory 
regime or the investment company regulatory regime.\184\ Thus, the 
definition of ``own account'' would not include those types of 
accounts.
---------------------------------------------------------------------------

    \184\ As discussed in Section II.A, the Proposed Rules would 
exclude registered investment companies in light of the regulatory 
framework that applies under the Investment Company Act and rules 
thereunder.
---------------------------------------------------------------------------

    Second under paragraph (b)(2)(ii)(B), the Proposed Rules would not 
attribute to a registered investment adviser an account held in the 
name of a client of the adviser, unless the adviser controls the client 
as a result of the adviser's right to vote or direct the vote of voting 
securities of the client, the adviser's right to sell or direct the 
sale of voting securities of the client, or the adviser's capital 
contributions to or rights to amounts upon dissolution of the 
client.\185\
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    \185\ Registered investment advisers typically have investment 
discretion over the assets of the accounts of their clients, 
including private funds and other client accounts that are managed 
separately (``separately managed accounts''). Each of these clients 
has its own independent investment objectives and strategies, which 
the registered investment adviser implements as agent for the 
client. Moreover, investors in different private funds typically 
differ in their investment objectives and strategies, as do owners 
of the assets in separately managed accounts. A registered 
investment adviser has a duty to provide investment advice in the 
best interest of its client, based on the client's investment 
objectives, see Investment Advisers Act Release No. 5248 (June 5, 
2019), 84 FR 33669, 33671 (July 12, 2019), and so the Proposed Rules 
would not require aggregation solely because a registered investment 
adviser exercises discretion.
---------------------------------------------------------------------------

    Under the aggregation provisions of the Proposed Rules, a 
registered investment adviser that has an investment advisory 
relationship and is determined to control the client would be required 
to aggregate its trading activities with those of the client.\186\ The

[[Page 23075]]

Proposed Rules' aggregation provisions are designed to account for 
trading activity within a corporate family in which trading activity at 
a firm or legal-entity level is employed on behalf of or for the 
benefit of another legal entity. In the case of registered investment 
advisers that have no controlling ownership interest in an entity for 
which they are solely managing client assets, the trading activities of 
the adviser and each client are independent of each other and are not 
for the benefit of the adviser or any other client. Nevertheless, the 
Commission recognizes, in the absence of the proposed exclusion for 
such accounts, questions could arise whether the Proposed Rules could 
require the aggregation of client trading activities with those of the 
registered investment adviser. Because some clients may have similar 
trading strategies, their trading activities in the aggregate could 
meet the proposed qualitative or quantitative standards. This would 
result in the application of the Proposed Rules to the activities of a 
registered investment adviser and those of its clients even when none 
of the entities is engaged in dealer activity for the economic benefit 
of another. To reduce the potential for capturing registered investment 
advisers and their clients in these circumstances, we are proposing to 
exclude registered investment advisers from aggregating their trading 
activities with those of their clients when the adviser and client only 
have a discretionary investment management relationship (i.e., where 
the registered investment adviser does not control the client as a 
result of the adviser's right to vote or direct the vote of voting 
securities of the client, the adviser's right to sell or direct the 
sale of voting securities of the client, or the adviser's capital 
contributions to or rights to amounts upon dissolution of the 
client).\187\
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    \186\ For purposes of the Proposed Rules ``control'' is defined 
to include ``the possession, direct or indirect, of the power to 
direct or cause the direction of the management and policies whether 
through the ownership of securities, by contract or otherwise.'' See 
supra note 181; 17 CFR 240.13h-l(a)(3).
    \187\ See text in 3a5-4(b)(2)(ii)(B) and 3a44-2(b)(2)(ii)(B) of 
the Proposed Rules.
---------------------------------------------------------------------------

    The Proposed Rules, however, are designed to address situations in 
which a registered investment adviser might use the proposed exclusion 
to avoid the application of the Proposed Rules. For example, a 
registered investment adviser that has a controlling ownership interest 
in a client could attempt to divide trading activities among several 
clients it controls to avoid dealer registration by any individual 
client whose trading activities would meet either of the Proposed 
Rules. In those circumstances, the aggregate trading activities of each 
client could be designed to economically benefit the registered 
investment adviser and, if aggregated, the activities would fall within 
the intended scope of the Proposed Rules. To prevent such potentially 
evasive structures, the proposed exclusion from aggregation does not 
apply to any registered investment adviser that controls the client as 
a result of the registered investment adviser's right to vote or direct 
the vote of voting securities of the client, the registered investment 
adviser's right to sell or direct the sale of voting securities of the 
client, or the adviser's capital contributions to or rights to amounts 
upon dissolution of the client.\188\
---------------------------------------------------------------------------

    \188\ Id. Paragraph (b)(2)(ii)(B) reflects the definition of 
control under Exchange Act Rule 13h-l. See 17 CFR 240.13h-l(a)(3).
---------------------------------------------------------------------------

    Third, under paragraph (b)(2)(ii)(C), a person under common control 
with another person solely because both persons are clients of a 
registered investment adviser would not aggregate their trading 
activities and volume to determine if each meet the Proposed Rules, 
unless those accounts constitute a parallel account structure. The 
Proposed Rules would define parallel account structure to mean ``a 
structure in which one or more private funds (each a `parallel fund'), 
accounts, or other pools of assets (each a `parallel managed account') 
managed by the same investment adviser pursue substantially the same 
investment objective and strategy and invest side by side in 
substantially the same positions as another parallel fund or parallel 
managed account.'' \189\ The aggregation provisions would require 
clients of a registered investment adviser that are determined to be 
under ``common control'' of the registered investment adviser to 
aggregate their trading activities under certain circumstances. As 
noted above, in many instances, a registered investment adviser's 
clients are engaged in independent investment objectives and strategies 
and no individual client is engaged in trading activities for the 
benefit of any other client. As a result, in the absence of the 
proposed exclusion, questions could arise whether clients who would not 
otherwise be scoped into the Proposed Rules either because of their 
individual trading activities or their trading activities for the 
economic benefit of any other client, could nevertheless be captured by 
the Proposed Rules as a result of having to aggregate their trading 
activities with those of other clients. To reduce the potential for 
capturing these registered investment adviser clients in these 
circumstances, we are proposing to exclude from the proposed 
requirement to aggregate trading activities of clients of a registered 
investment adviser that are under common control solely because both 
are clients of the same registered investment adviser.\190\
---------------------------------------------------------------------------

    \189\ See proposed Rule 3a5-4(b)(4) and proposed Rule 3a44-
2(b)(4). The proposed definition of ``parallel account structure'' 
corresponds to definitions of ``parallel fund structure'' and 
``parallel managed account'' under Form PF. See Form PF Glossary of 
Terms, available at https://www.sec.gov/files/formpf.pdf.
    \190\ See proposed Rule 3a5-4(b)(2)(ii)(C) and proposed Rule 
3a44-2(b)(2)(ii)(C).
---------------------------------------------------------------------------

    At the same time, however, the Proposed Rules are designed to 
prevent a registered investment adviser from dividing trading 
activities among multiple clients to avoid the application of the 
Proposed Rules. A registered investment adviser could, for example, 
create a parallel fund structure in which one or more private funds 
pursue substantially the same investment objective and strategy and 
invest side by side in substantially the same positions as another 
private fund. The registered investment adviser could limit the trading 
activity of each ``parallel fund'' so that individually it does not 
meet the qualitative or quantitative standards, even though the funds' 
trading activities in the aggregate are part of a single trading 
strategy. To prevent such potential structuring of funds to avoid 
dealer registration, the proposed exclusion would not apply to client 
accounts that constitute a parallel account structure.\191\
---------------------------------------------------------------------------

    \191\ Id.
---------------------------------------------------------------------------

    Finally, it is important to note that, as discussed above, while a 
person that meets the qualitative or quantitative standards in 
paragraph (a) is not subject to the Proposed Rules if that person has 
or controls total assets less than $50 million,\192\ the accounts of 
such under-$50-million persons must be considered for purposes of 
determining whether another person's trading activities or volume falls 
within the qualitative or quantitative standards set forth in paragraph 
(a). In particular, a person must consider for aggregation purposes any 
accounts (including those under $50 million) that are controlled by, or 
under common control with, that person. The Commission believes that 
requiring aggregation of accounts of those persons that have or control 
less than $50 million in total assets would prevent the organizing of 
corporate

[[Page 23076]]

structures for the purpose of avoiding dealer registration.
---------------------------------------------------------------------------

    \192\ See Section III.A; proposed Rule 3a5-4(a)(2)(i) and 
proposed Rule 3a44-2(a)(3)(i).
---------------------------------------------------------------------------

    The following examples illustrate the application of the Proposed 
Rules' definition of ``own account'' as discussed above. In these 
examples, whether any of the firms' relationship and activities meet 
the definition of ``control'' would remain a facts and circumstances 
determination. Additionally, as discussed in Section III.E, although a 
firm may not meet the Proposed Rule's definition of dealer or 
government securities dealer in the examples, the firm may be a dealer 
or government securities dealer pursuant to existing Commission 
interpretations and precedent to the extent consistent with the 
Proposed Rules.
Example 1
     A, B, and C are under common control; all are controlled 
by D. A, B, C, and D are all limited liability companies. None of the 
firms are registered brokers, dealers, government securities dealers, 
or registered investment companies.
Aggregation by Parent D
    [cir] D would aggregate the trading activities and volume of A, B, 
C, and D to determine if D would be captured by paragraph (a) of the 
Proposed Rules. If as a result of this aggregation, D meets the 
quantitative or qualitative standards of paragraph (a), and it has or 
controls more than $50 million in total assets, it would be captured by 
the Proposed Rules.
Aggregation by D's Subsidiaries
    [cir] A, B, and C would also need to aggregate each other's trading 
activities and volume to determine if they would individually be 
captured by the qualitative or quantitative standards of paragraph (a) 
of the Proposed Rules. If, as a result of aggregation A, B, and C each 
meet the qualitative or quantitative standards of paragraph (a), but A 
has or owns less than $50 million in total assets, A would be excluded 
from the Proposed Rules under paragraph (a). A's activities and volume, 
however, would still be considered for purposes of B, C, and D.
    [cir] If B registers as a dealer, its trading activities and volume 
would no longer be considered by A, C, or D.
Example 2
     A is a registered investment adviser with clients B, C, D, 
E, F, and G. A has an investment advisory contract with each of B and C 
under which A exercises investment discretion with respect to B's and 
C's assets each in an account separately managed by A. D and E are 
hedge funds. A is the general partner of both D and E, and controls D 
and E as a result of its capital contributions to and rights to amounts 
upon dissolution of each fund. F and G are also hedge funds. A has an 
investment advisory contract with each of F and G under which A 
exercises investment discretion with respect to F's and G's assets. F 
and G pursue substantially the same investment objective and strategy 
and invest side by side in substantially the same positions. Neither A 
nor any of its clients is a registered broker, dealer, government 
securities dealer, or registered investment company.
Aggregation by A
    [cir] A would not need to aggregate its trading activities with the 
trading activities of B, C, F, or G unless A controls B, C, F, or G as 
a result of the right to vote or direct the vote of the voting 
securities issued by these clients, the right to sell or direct the 
sale of the voting securities issued by these clients, or the amount of 
capital contributions to or rights to amounts upon these clients' 
dissolution.
    [cir] A would need to aggregate its trading activities with the 
trading activities of both D and E because A has control over each fund 
as a result of its capital contributions to and rights to amounts upon 
dissolution of each fund.
Aggregation by A's Clients
    [cir] B and C would not need to aggregate their trading activities 
even if B and C were determined to be under common control (which would 
be a facts and circumstances determination), because common control 
would be solely because both are clients of A.
    [cir] D and E would need to aggregate their trading activities 
because they are under common control of A, which has the right to 
direct the vote of the voting securities of each fund and the right to 
capital contributions upon dissolution of the fund and not solely 
because each fund is a client of A.
    [cir] Each of F and G would need to aggregate the trading 
activities of the other fund. F and G's activities would constitute a 
parallel account structure (even if they are under common control 
solely because both F and G are clients of A) because F and G are 
managed by the same investment adviser, pursue substantially the same 
investment objective and strategy and invest side by side in 
substantially the same positions as another parallel fund or parallel 
managed account.
    The Commission believes that the definitions of own account and 
control are appropriate and will help to ensure that there is no 
circumvention of the Proposed Rules through, for example, the 
establishment of multiple legal entities whose activities may not 
separately rise to a level of engagement that qualifies for dealer or 
government dealer status, but, when aggregated, does demonstrate that 
the entities are selling and buying securities or government securities 
as a part of a regular business.
Request for Comments
    The Commission generally requests comment on this aspect of the 
Proposed Rules. In addition, the Commission requests comment on the 
following specific issues:
    30. Does the proposed definition of ``own account'' appropriately 
reflect complexities and differences in corporate structures and 
business models of proprietary trading firms, investment advisers, 
private funds, and other market participants, and the ownership 
structures of their trading accounts? Why or why not? Commenters should 
provide descriptions to support their responses.
    31. Except as described in paragraph (b)(2)(ii), are there 
instances when an account of a controlled person, or person under 
common control, should not be considered a person's ``own account'' for 
purposes of the Proposed Rules? For example, should an account held in 
the name of a bank be excluded from the definition of ``own account''? 
Commenters should provide descriptions of any such instances.
    32. Is the proposed definition of ``control'' appropriate? What is 
the effect of using the Exchange Act definition of ``control'', as 
opposed to the Investment Company Act definition? Please describe 
potential alternative definitions and why they are more appropriate.
    33. Are there instances where two entities may meet the proposed 
definition of ``control'' and where these entities are in different 
lines of business and/or unaware of the other's trading strategies? Are 
there any situations where two entities may meet the proposed 
definition of ``control'' but communications between two entities would 
be prohibited?
    34. Under the Proposed Rules, a registered investment adviser would 
aggregate its account with its client accounts (private funds and 
separately managed accounts), except as described in paragraph 
(b)(2)(ii).
     Should registered investment advisers be included only 
with respect to their own proprietary trading activities (i.e., not 
with respect to activities that could be attributed to

[[Page 23077]]

them by the aggregation contemplated by the definitions of ``own 
account'' and ``control'')? Why or why not?
     How would such aggregated accounts comply with the 
requirements for dealer registration?
     In these cases, would the investment adviser registering 
itself avoid registering a private fund or separately managed account 
client? If not, are there other actions these accounts would seek to 
take to avoid all such accounts either registering as dealers or 
ceasing investment strategies that trigger the Proposed Rules 
application? Would any of such accounts avoid certain investment 
strategies to prevent application of the Proposed Rules? If so, which 
investment strategies and at which types of accounts?
     Would the registered investment adviser restructure its 
activities or those of its private fund or separately managed account 
clients to avoid registering a private fund or separately managed 
account client as a dealer? For example, would a registered investment 
adviser create an affiliated broker-dealer to avoid registering itself 
and/or any clients as dealers? What would be the effects of any 
restructuring? Please explain.
    35. Should the Proposed Rules require registered investment 
advisers to aggregate client accounts when the adviser controls a 
person other than through an ownership interest? Why or why not? We 
understand that, for tax and other purposes, hedge fund offshore 
companies are often controlled by boards of directors or legal entities 
that are separate from the hedge fund's adviser. Should the aggregation 
provisions of the Proposed Rules cover those arrangements? Will the 
exclusion in paragraph (b)(2)(ii)(B) have different impacts on 
registered investment adviser client funds that are organized 
domestically as general partnerships and funds that are organized 
offshore as companies with independent directors? If so, could 
registered investment advisers restructure certain funds to avoid 
application of the Proposed Rules? What would be the effects of any 
restructuring? Would a registered investment adviser's use of an 
omnibus account to trade client securities on an aggregate basis 
present particular interpretative questions or raise operational issues 
for these purposes?
    36. Should registered investment adviser clients that are under 
common control solely because they are clients of the same registered 
investment adviser be required to aggregate accounts? Why or why not? 
Does the definition of ``parallel control structure'' adequately 
capture ways in which a registered investment adviser could seek to 
separate trading activities among accounts to avoid registration by 
their clients? Would the aggregation provisions of the Proposed Rules 
appropriately capture activity that would raise the concerns that the 
Proposed Rules are designed to address? Would the aggregation 
provisions of the Proposed Rules capture activity that it should not? 
If so, please explain.
    37. Are there any incentives created by the aggregation provisions 
that may cause market participants to reevaluate or restructure their 
corporate structures? What costs and benefits are there associated with 
restructuring?
    38. Would market participants exit certain strategies or exit the 
market to avoid registration? If so, what would be the effects?

E. No Presumption

    The Proposed Rules would further define the phrase ``as a part of a 
regular business'' by identifying certain activities that would cause 
persons engaging in such activities to be ``dealers'' or ``government 
securities dealers'' within the meaning of Sections 3(a)(5) and 
3(a)(44) of the Exchange Act.\193\ They would not seek to address all 
persons that may be acting as dealers or government securities dealers 
under otherwise applicable interpretations and precedent.\194\ A person 
that does not meet the conditions set forth in the Proposed Rules may 
nonetheless be a dealer if it is otherwise engaged in a regular 
business of buying and selling securities for its own account by, for 
example, acting as an underwriter.\195\
---------------------------------------------------------------------------

    \193\ As discussed above, each qualitative standard in proposed 
Rules 3a5-4 and 3a44-2 is a separate definition that further defines 
when a person is acting as a dealer or government securities dealer. 
See Section III.B. Accordingly, a person would register with the 
Commission if it satisfied any one of the three qualitative 
standards. Id. Similarly, the quantitative standard in proposed Rule 
3a44-2(a)(2) is a discrete definition and a person would register as 
a government securities dealer upon meeting this standard even if it 
did not satisfy any of the qualitative standards in proposed Rule 
3a44-2(a)(1). See Section III.C.
    \194\ See supra note 87; see, e.g., 2002 Release at 67499 
(stating that ``[a]s developed over the years, the dealer/trader 
distinction recognizes that dealers normally . . . hold themselves 
our as buying and selling securities at a regular place of 
business'').
    \195\ See 2002 Release at 67499.
---------------------------------------------------------------------------

    To emphasize this point, the Proposed Rules would state that no 
presumption shall arise that a person is not a dealer or government 
securities dealer as defined by the Exchange Act solely because that 
person does not satisfy paragraph (a) of the Proposed Rules. Proposed 
Rules 3a5-4(c) and 3a44-2(c) thus would provide that a person may still 
meet the statutory definition of dealer and government securities 
dealer even absent the activity identified in paragraph (a) of the 
Proposed Rules if the person is otherwise engaged in buying and selling 
securities or government securities for its own account as a part of a 
regular business.\196\
---------------------------------------------------------------------------

    \196\ See proposed Rule 3a5-4(c) and proposed Rule 3a44-2(c).
---------------------------------------------------------------------------

IV. General Request for Comments

    The Commission generally requests comment on all aspects of the 
Proposed Rules. In addition, the Commission requests comment on the 
following specific issues:
    39. Are there standards of activity other than the standards under 
the Proposed Rules that the Commission should apply in the context of 
analyzing dealer status? If so, which standards and why?
    40. Would the Proposed Rules capture persons that should not be 
regulated as dealers? If so, who? Why would they be captured under the 
Proposed Rules, and why is that not appropriate?
    41. Are there any categories of persons that would not meet the 
Proposed Rules, yet should be registered as dealers? Commenters should 
identify any such categories of persons and describe why they should be 
registered despite not meeting the proposed thresholds.
    42. Would the Proposed Rules cause market participants to 
reevaluate or restructure their activities to avoid registration as a 
dealer or cease investment strategies that trigger the application of 
the Proposed Rules? What would be the effects of such restructuring, 
withdrawal, or cessation? Please explain.
    43. For purposes of determining whether a person is a dealer, are 
there significant differences between equity securities, government 
securities, or other securities that should be addressed by the 
Proposed Rules? Commenters should identify and discuss any such 
differences.
    44. Would the Proposed Rules appropriately apply the requirements 
applicable to dealers (e.g., capital, margin, and business conduct 
requirements) to the entities that would be subject to those 
requirements? Is the scope of the Proposed Rules appropriate in light 
of the costs and benefits associated with those substantive rules?
    45. How are each of PTFs, hedge funds, and investment advisers 
typically capitalized? Would the requirement of the Net Capital Rule 
(Exchange Act Rule 15c3-1) deter any of these entities from

[[Page 23078]]

registering? Would the Net Capital Rule cause these entities to alter 
trading activity that would trigger the rules' application?
    46. Would a pension plan or other institutional investor that 
rebalances its portfolio be captured by the Proposed Rules? Please 
explain how. If so, should the rule specifically exclude periodic 
portfolio rebalancing (e.g., on a monthly or quarterly basis) from the 
concept of ``as a part of a regular business?'' Why or why not?
    47. Should the Commission view rebalancing differently if it occurs 
only at a certain frequency or by certain institutional investors? Why 
or why not?
    48. Are there any other terms used in the Proposed Rules that the 
Commission should define? Why or why not? Please identify what term(s) 
and how the term(s) should be defined.
    49. Should the Proposed Rules include an anti-evasion provision 
similar to Rule 13h-l(c)(2), and why?
    50. Will the Proposed Rules appropriately account for trading 
activity occurring through sponsored access arrangements? Is there 
anything more that the Commission should address regarding how such 
Proposed Rules will interrelate with such arrangements?
    51. If the Proposed Rules are adopted, which staff letters, if any, 
should or should not be withdrawn, and why?
    52. Are there additional standards, consistent with the 
Commission's objectives, that should be incorporated into the Proposed 
Rules? Commenters should identify and discuss any such standards.
    53. Are there any additional factors that the Commission should 
address in relation to the Proposed Rules?
    54. Are there any alternative approaches to the Proposed Rules that 
the Commission should propose? Commenters should identify any such 
alternative approach and describe the advantages and disadvantages of 
the alternative approach.
    55. Other than what is discussed herein, are there any costs of 
compliance with the Proposed Rules that the Commission has not 
addressed? Commenters should describe any additional costs of 
compliance with the proposed rule and include any empirical data, to 
the extent available.
    56. The Commission is proposing a one-year compliance period from 
the effective date of any final rules if adopted. Would the proposed 
compliance period provide sufficient time for market participants to 
comply with the Proposed Rules? Why or why not?

V. Economic Analysis

A. Introduction

    The Commission is sensitive to the economic effects of its rules, 
including the costs and benefits and effects on efficiency, 
competition, and capital formation. Section 3(f) of the Exchange Act 
requires the Commission, whenever it engages in rulemaking pursuant to 
the Exchange Act and is required to consider or determine whether an 
action is necessary or appropriate in the public interest, to consider, 
in addition to the protection of investors, whether the action would 
promote efficiency, competition, and capital formation.\197\ In 
addition, Section 23(a)(2) of the Exchange Act requires the Commission, 
when making rules under the Exchange Act, to consider the effect such 
rules would have on competition.\198\ Exchange Act Section 23(a)(2) 
prohibits the Commission from adopting any rule that would impose a 
burden on competition not necessary or appropriate in furtherance of 
the purposes of the Exchange Act.\199\
---------------------------------------------------------------------------

    \197\ 15 U.S.C. 78c(f).
    \198\ 15 U.S.C. 78w(a)(2).
    \199\ Id.
---------------------------------------------------------------------------

    The Commission believes the Proposed Rules will support orderly 
markets and protect investors by addressing negative externalities that 
may arise in relation to market participants' financial and operational 
risks. The Proposed Rules would also improve transparency in markets. 
Specifically, the Commission believes the Proposed Rules would promote 
the financial and operational resilience of individual liquidity 
providers in securities markets and would improve the Commission's 
ability to monitor market activity, conduct research, and detect 
manipulation and fraud. The Proposed Rules would have uncertain impacts 
on efficiency, competition, and capital formation, due to the 
likelihood of offsetting effects. As discussed further below, the 
Proposed Rules may create a more level competitive landscape by 
applying similar rules to all activities that meet the proposed 
standards, and they may also promote market efficiency and capital 
formation by strengthening market stability and investor protection. 
However, offsetting effects could arise due to costs that the Proposed 
Rules would impose on activities that provide liquidity.
    Any person whose activities satisfy the qualitative or quantitative 
standards would be affected by the Proposed Rules. The list of affected 
parties would primarily include PTFs, but private funds may also be 
affected. Registered investment advisers may be affected if their own 
proprietary trading activity triggers the application of the Proposed 
Rules or if they have certain control over client accounts (including 
private funds and separately managed accounts) that, individually or 
collectively, engage in activities that satisfy the Proposed Rules. 
However, the Proposed Rules' aggregation provisions exclude an account 
held in the name of a client of the registered investment adviser 
unless the adviser controls the client as a result of the adviser's 
right to vote or direct the vote of voting securities of the client, 
the adviser's right to sell or direct the sale of voting securities of 
the client, or the adviser's capital contributions to or rights to 
amounts upon dissolution of the client.\200\ Registered investment 
companies would be excluded from the Proposed Rules, along with all 
persons that have or control assets of less than $50 million, as 
described below. Other parties who may be indirectly affected include 
the competitors, customers or clients (if any), and creditors (if any) 
of the above-mentioned affected parties.
---------------------------------------------------------------------------

    \200\ See supra note 185 and associated text.
---------------------------------------------------------------------------

B. Baseline

    Dealers perform an important market function, absorbing order 
imbalances and providing liquidity to buyers and sellers who may not 
arrive at the same time, and a regulatory regime exists to govern their 
activities. However, market participants that do not register as 
dealers--and so are not required to comply with the dealer regulatory 
regime--increasingly perform similar economic functions as dealers. 
This difference in regulatory treatment creates the potential for 
negative externalities, as described below. Furthermore, the unevenness 
of regulation potentially places a greater burden on registered dealers 
than on other market participants that engage in similar activities, 
which may allow market participants not registered as dealers to gain 
market share from registered dealers.
1. Regulatory Baseline
    Dealers, unless excepted or exempted, are required to register with 
the Commission,\201\ join an SRO, and adhere to a comprehensive 
regulatory regime. As discussed above in Section II, this regime 
includes provisions that limit risk (e.g., the Net Capital Rule and 
rules promoting operational integrity),

[[Page 23079]]

books and records requirements,\202\ various reporting and disclosure 
requirements,\203\ and dealer-specific anti-manipulative and other 
anti-fraud rules.\204\ The Net Capital Rule (Rule 15c3-1) requires 
registered dealers to maintain minimum amounts of net liquid assets at 
all times, even intraday, thus constraining dealer leverage.\205\ In 
addition to the financial and regulatory risk management controls 
required by the Market Access Rule, broker-dealers with market access 
must comply with a number of underlying regulatory requirements when 
conducting their business.\206\ Registered dealers are also subject to 
the Commission's authority to conduct examinations and impose 
sanctions,\207\ and to the examination and enforcement authority of the 
relevant SRO.\208\ Government securities dealers are further subject to 
rules issued by the Treasury that concern financial responsibility, 
capital requirements, recordkeeping, reports and audits, and large 
position reporting.\209\ Finally, since registered dealers must join an 
SRO, they are bound by additional rules set by the SROs.\210\
---------------------------------------------------------------------------

    \201\ As of August 2, 2021, 3,559 firms were registered with the 
Commission as broker-dealers. See Data: Company Information About 
Active Broker-Dealers, SEC (updated Feb. 1, 2022), available at 
https://www.sec.gov/help/foiadocsbdfoiahtm.html.
    \202\ See supra note 79.
    \203\ See supra note 77.
    \204\ See supra note 80.
    \205\ See supra note 76. Rule 15c3-1 requires dealers to 
maintain, at all times, net capital above the greater of: A 
percentage of debt (6.25 percent, or 11.1 percent for 12 months 
after commencing business as a broker or dealer), or a fixed minimum 
amount based on the types of business in which the dealer engages 
(the general amount for dealers without customers is $100,000).
    \206\ These regulatory requirements include, for example, pre-
trade requirements such as exchange-trading rules relating to 
special order types, trading halts, odd-lot orders, and SEC rules 
under Regulation SHO and Regulation NMS, as well as post-trade 
obligations to monitor for manipulation and other illegal activity. 
Also see supra note 78 on the Market Access Rule (15c3-5).
    \207\ See supra note 82 and Section II.D.
    \208\ Exchange Act Section 17(b) subjects broker-dealers to 
inspections and examinations by Commission staff and by the relevant 
SRO. In addition, 17 CFR 240.15b2-2 (Exchange Act Rule 15b2-2) 
generally requires the SRO that has responsibility for examining a 
dealer member to inspect a newly registered dealer for compliance 
with applicable financial responsibility rules within six months of 
registration, and for compliance with all other regulatory 
requirements within 12 months of registration. See also 17 CFR 
240.17d-1 (Exchange Act Rule 17d-1), Examination for compliance with 
applicable financial responsibility rules. Thereafter, FINRA or 
another SRO, as applicable, continues to inspect each firm 
periodically, based on the firm's risk profile.
    \209\ See supra note 81.
    \210\ For example, see FINRA Rule 2010 (Standards of Commercial 
Honor and Principles of Trade); FINRA Rule 2020 (Use of 
Manipulative, Deceptive, or Other Fraudulent Devices); and FINRA 
Rule 4510 Series (Books and Records Requirements). Other SROs have 
comparable and sometimes equivalent rules. See, e.g., NYSE Rules, 
NYSE, available at https://nyseguide.srorules.com/rules, Rulebook--
The Nasdaq Stock Market, Nasdaq, available at https://listingcenter.nasdaq.com/rulebook/nasdaq/rules.
---------------------------------------------------------------------------

    Among other things, these rules help to ensure that dealers are 
financially responsible, including adequately capitalized, that they 
maintain internal controls, and that the Commission and the SROs have 
tools to help them detect manipulation or fraud by analyzing 
transaction reports and examining other records kept by the dealer.
2. Other Market Participants
    Market participants who are not registered as dealers also conduct 
significant activity in securities markets,\211\ and the Commission 
believes that some of these entities nevertheless perform the economic 
function of dealers. Because the Proposed Rules would apply to 
activities rather to persons' legal descriptions or other 
characteristics, they could potentially capture a wide array of 
persons.\212\
---------------------------------------------------------------------------

    \211\ For fixed income securities, where TRACE data allow us to 
observe some of the activity of non-dealers, we estimate that in 
July 2021 the combined volume of non-FINRA firms accounted for 
approximately 45 percent of the volume of U.S. Treasury securities, 
approximately 44 percent of the total corporate bond volume, and 
approximately 42 percent of the volume of agency pass-through 
mortgage backed securities (including securities traded in specified 
pool transactions and securities traded to be announced). While 
FINRA membership is not synonymous with dealer registration status, 
the Commission believes that many non-FINRA entities are also not 
registered as dealers.
    \212\ Upon the adoption of any final rule, some letters and 
other staff statements, or portions thereof, may be moot, 
superseded, or otherwise inconsistent with the final rules and, 
therefore, would be withdrawn or modified. See supra note 41.
---------------------------------------------------------------------------

    The list of affected parties would not include persons who have or 
control assets less than $50 million, and we estimate that this 
provision would exclude the majority of investors.\213\ Established 
FINRA rules distinguish retail investors from institutional investors, 
in part, based on a threshold of $50 million in assets, and we follow 
that standard to exclude small investors who are unlikely to conduct a 
significant degree of dealer-like activity.\214\ Certain financial 
institutions may also be exempt from the Proposed Rules.\215\
---------------------------------------------------------------------------

    \213\ Most U.S. investors are households, and most household 
investors have less than $50 million in assets. The 2019 Survey of 
Consumer Finance, sponsored by the Federal Reserve Board of 
Governors and the U.S. Treasury, shows that 68 million U.S. families 
owned stocks and bonds, either directly or indirectly, and that 93 
percent own less than $1 million. The survey also showed that the 
mean (median) U.S. household had total assets of $858,000 
($227,000). This number of household investors is much larger than 
the number of institutional investors. For example, there are 
currently 16,127 registered investment companies and 14,874 
registered investment advisers.
    \214\ See supra note 99.
    \215\ See supra notes 9 and 29.
---------------------------------------------------------------------------

    The first two subsections below explain why we preliminarily 
believe that PTFs and private funds, particularly hedge funds, are the 
most likely firms other than registered dealers to be engaged in 
activities that would satisfy the Proposed Rules. As discussed above, 
the activities of clients would not be attributed to a registered 
investment adviser for purposes of determining whether the adviser 
would fall under the Proposed Rules, except in cases where (i) the 
adviser controls the clients as a result of voting rights, capital 
contributions, or the rights to amounts upon dissolution and (ii) the 
clients over which the registered adviser has such control collectively 
engage in activities that satisfy the Proposed Rules. Therefore, 
registered investment advisers would not fall under the Proposed Rules 
solely due to client activities over which the adviser has investment 
discretion. Advisers may still fall under the Proposed Rules on the 
basis of their own proprietary trading. The third subsection below 
discusses evidence regarding the number of persons whose activities may 
satisfy the Proposed Rules. The final subsection covers the Proposed 
Rules' exclusion for registered investment companies.

[[Page 23080]]

a. Proprietary Trading Firms
    PTFs have emerged as consequential players in securities markets. 
While some PTFs have registered with the Commission, many others have 
not. Some studies of high-frequency trading--a primary feature of PTF 
activity, according to the 2015 Joint Staff Report--show that this 
activity may have positive effects on transaction costs and 
competition, while other studies show that the net effects may be 
negative.\216\ PTFs that are not registered with the Commission are 
subject to the anti-manipulation and anti-fraud provisions under 
Securities Act Section 17(a) and to Exchange Act Section 10(b), but 
they are not subject to the more targeted provisions under Exchange Act 
Section 15(c), to examinations, to net capital requirements, or to 
various reporting requirements that apply to dealers.
---------------------------------------------------------------------------

    \216\ For a survey of the literature, see, Albert J., 2016, The 
Economics of High-Frequency Trading: Taking Stock, Annual Review of 
Financial Economics (8), 1-24. See also Baron, Matthew, Jonathan 
Brogaard, Bj[ouml]rn Hagstr[ouml]mer, and Andrei Kirilenko, 2019, 
Risk and Return in High-Frequency Trading, Journal of Financial and 
Quantitative Analysis 54(3), 993-1024.
    \217\ The analysis is limited to a subsection of TRACE data 
where the identity of trading counterparties is known. In July 2021, 
approximately 58 percent of the non-FINRA member volume in TRACE 
belonged to anonymous market participants. Non-FINRA member 
participants generally appear anonymously when they trade with FINRA 
members, who report their activity to TRACE but maintain the 
anonymity of the non-FINRA member counterparties. When non-FINRA 
member participants trade on an ATS that is covered by FINRA Rule 
6730.07, the ATS reports the transaction to TRACE along with a 
unique, non-anonymous MPID for each counterparty.
    \218\ TRACE identifies counterparties by MPIDs, of which an 
individual firm may have many. The firm classification is based on 
an understanding of the individual firms' businesses (see also the 
2015 Joint Staff Report at 50).
    \219\ The analysis does not aggregate affiliated firms, but 
counts them separately, even though they may be controlled by a 
common corporate parent. For example, if a firm were to have a 
FINRA-member broker-dealer affiliate and a non-FINRA hedge fund 
affiliate, the analysis would consider the broker-dealer and the 
hedge fund as separate firms.
    \220\ See supra note 2. See also FEDS Notes, ``Unlocking the 
Treasury Market Through TRACE'' (Sept. 28, 2018).
---------------------------------------------------------------------------

    Because regulatory TRACE data pertaining to Treasury securities 
reported by certain ATSs contains the identity of non-FINRA member 
trading parties, we are able to analyze PTFs' importance in the U.S. 
Treasury market during July 2021 \217\ and summarize the number and 
type of market participants by monthly trading volume in Table 1 
below.\218\ The analysis included 626 firms \219\ who were active in 
the U.S. Treasury market in July 2021, of which 452 were FINRA members 
and 174 were not. While FINRA membership is not synonymous with dealer 
registration status, we believe that many of the large participants in 
the U.S. Treasury market who are not FINRA members are also not 
registered as dealers. The 174 identified non-FINRA member firms in 
Table 1 accounted for approximately 19 percent of aggregate Treasury 
trading volume in July 2021. PTFs had by far the highest volumes among 
identified non-FINRA member participants in the U.S. Treasury market, 
and the largest PTFs had trading volumes that were roughly comparable 
to the volumes of the largest dealers. A Federal Reserve staff analysis 
found that PTFs were particularly active in the interdealer segment of 
the U.S. Treasury market in 2019, accounting for 61 percent of the 
volume on automated interdealer broker platforms and 48 percent of the 
interdealer broker volume overall.\220\ Figure 1 also shows that non-
FINRA member firms in the U.S. Treasury market (most of which we 
believe are not dealers) have a volume distribution that is comparable 
to the volume distribution of FINRA-members (most of whom are dealers). 
Based on PTFs' high trading volumes, and on the Federal Reserve staff 
finding that PTFs are particularly active in the interdealer segment of 
the U.S. Treasury market, we believe that PTFs have emerged as de facto 
liquidity providers in the U.S. Treasury market.

[[Page 23081]]

                                        Table 1--Count of Active Firms in the Treasury Market by Type: July 2021
--------------------------------------------------------------------------------------------------------------------------------------------------------
                                                                                        # Firms with (buy + sell) volume >
                        Firm type                        -----------------------------------------------------------------------------------------------
                                                                $0             $1 bn          $10 bn          $25 bn          $50 bn          $100 bn
--------------------------------------------------------------------------------------------------------------------------------------------------------
FINRA-member firms......................................             452             126              74              53              38              32
    Dealers.............................................             420             101              51              35              25              21
Non-FINRA member firms..................................             174              95              46              23              14               9
    Asset Managers......................................      ([dagger])             (*)             (*)             (*)             (*)             (*)
    Dealers.............................................              80              42              20             (*)             (*)             (*)
    Hedge Funds.........................................              41              17             (*)             (*)             (*)             (*)
    Others..............................................      ([dagger])             (*)             (*)             (*)             (*)             (*)
    PTFs................................................              38              30              22              18              13               9
    Sum of *s...........................................              15               6               4               5               1               0
--------------------------------------------------------------------------------------------------------------------------------------------------------
[dagger] Suppressed; strictly greater than zero.
* Suppressed; greater than or equal to zero.

[GRAPHIC] [TIFF OMITTED] TP18AP22.036

    Since the analysis behind Table 1 is limited to the subset of TRACE 
data where we can identify the individual firms,\221\ the numbers of 
firms with trading volume above the various thresholds may be greater 
than shown in the table. This is also to say that, were the data to 
include all market participants, we would need higher thresholds to be 
able to report numbers of firms similar to what are shown in the table. 
We make this adjustment as follows. In July 2021, the analysis was able 
to determine the firm identity and FINRA membership status of 42 
percent of the non-FINRA member volume; the remaining 58 percent of 
non-FINRA member volume was anonymous.\222\ Under the assumption that 
all non-FINRA member market participants are equally represented in 
both the anonymous and identified subsets of TRACE, the analysis 
equally undercounts the volume of all firms--i.e., we assume that our 
analysis only contains 42 percent of identified non-FINRA member firms' 
volume. We acknowledge considerable uncertainty regarding this 
assumption. The assumption of equal representation in the observed and 
non-observed data suggests dividing the thresholds shown in Table 1 by 
0.42 (or multiplying them by approximately 2.5). For example, Table 1 
shows that our analysis counted 46 non-FINRA member firms with trading 
volumes of at least $10 billion in July 2021; the adjustment would 
suggest that those 46 firms actually had trading volumes of above $25 
billion. However, firms in the various categories may not be equally 
represented in the identified and anonymous data. If, for example, PTFs 
are overrepresented in the identified data, then the actual number of 
PTFs with volumes over $25 billion will be closer to 18 than to 22. We 
preliminarily estimate that approximately 46 non-FINRA member firms 
would surpass the $25 billion volume threshold given in the 
quantitative standard of the Proposed Rules. Although the analysis 
behind Table 1 only uses data from July 2021, we find that the number 
of firms that would have surpassed the $25 billion volume threshold in 
four out of the last six calendar months remained relatively steady 
between 39 and 50 from September 2019 to July 2021, or the entire 
period for which data was available. Non-FINRA member counterparties 
are first identified in TRACE beginning in April 2019, so September 
2019 is the first month in which we can count how many non-FINRA member 
firms would surpass the quantitative threshold in four out of the last 
six calendar months.
---------------------------------------------------------------------------

    \221\ See supra note 217.
    \222\ For each transaction, we consider each counterparty to be 
responsible for half of the volume. Therefore, for a transactions 
where we observe the identity of only one counterparty, we consider 
that we have only determined the firm identity and FINRA membership 
for half of the transaction's volume. We observe the identity of at 
least one counterparty for all transactions in TRACE, since trades 
between non-FINRA member firms are not reported to TRACE.
---------------------------------------------------------------------------

b. Private Funds
    Private funds \223\ are prominent participants in U.S. securities 
markets. As of the second quarter of 2021, the Commission observed the 
following

[[Page 23082]]

types of private funds reported on Form PF:\224\
---------------------------------------------------------------------------

    \223\ See supra note 30.
    \224\ See Division of Investment Management Analytics Office, 
SEC, Private Fund Statistics: Second Calendar Quarter 2021 (Jan. 14, 
2022), available at https://www.sec.gov/divisions/investment/private-funds-statistics/private-funds-statistics-2021-q2.pdf

                                  Table 2--Private Fund Statistics as of 2021Q2
----------------------------------------------------------------------------------------------------------------
                                                         Gross asset value                Net asset value
            Fund type                  Count     ---------------------------------------------------------------
                                                    Total  ($B)     Avg   ($mm)    Total   ($B)     Avg  ($mm)
----------------------------------------------------------------------------------------------------------------
Hedge Fund......................           9,613           9,584             997           5,132             534
Private Equity Fund.............          15,861           4,825             304           4,270             269
Venture Capital Fund............           1,424             222             156             214             150
Liquidity Fund..................              76             330           4,342             319           4,197
Other Private Fund..............          10,557           3,041             288           2,167             205
----------------------------------------------------------------------------------------------------------------
Note: These statistics rely on Form PF. Only SEC-registered advisers with at least $150 million in private fund
  assets under management must report to the Commission on Form PF; SEC-registered investment advisers with less
  than $150 million in private fund assets under management, SEC exempt reporting advisers, and state-registered
  investment advisers are not required to file Form PF.

    Of the 9,613 hedge funds reported on Form PF, there were 1,968 
qualifying hedge funds that reported information on their positions, 
and these held $3.2 trillion in listed equities and $1.7 trillion in 
U.S. Government securities. Of the 76 liquidity funds, 56 liquidity 
funds reported information on their positions, and these held $94.8 
billion in U.S. Government securities and $21.7 billion in asset-backed 
securities.
    Among private funds, hedge funds are the most likely to be engaged 
in activities that meet the Proposed Rules. As reported on Form PF, 
hedge funds and private equity funds are the largest by count and 
aggregate assets, and hedge funds and liquidity funds are the largest 
by average fund assets. However, the business models of private equity 
funds \225\ and liquidity funds \226\ are unlikely to fall under the 
Proposed Rules' qualitative factors, since they are generally long-only 
investors that are not likely to routinely make roughly comparable 
purchases and sales of the same or substantially similar securities in 
a day or to routinely quote markets to capture bid-ask spreads. As 
described above, ``routinely'' in the Proposed Rules means both 
repeatedly within a day (multiple times in a single day) and repeatedly 
over time (on the majority of days in a calendar month). Regarding the 
quantitative volume standard, liquidity funds may trade large volumes 
of U.S. Treasury securities, but the average reporting liquidity fund, 
as of the second quarter of 2021, held only $1.7 billion of Treasury 
securities and held the average positions for 40-50 days.\227\ Such a 
fund is unlikely to regularly trade $25 billion in U.S. Treasury 
securities in a month.
---------------------------------------------------------------------------

    \225\ See Investor.gov, Private Equity Funds, available at 
https://www.investor.gov/introduction-investing/investing-basics/investment-products/private-investment-funds/private-equity.
    \226\ See D. Hiltgen, ``Private Liquidity Funds: Characteristics 
and Risk Indicators,'' DERA White Paper (Jan. 2017).
    \227\ See supra note 224, figures 18-19.
---------------------------------------------------------------------------

    An important similarity between private funds and PTFs is the 
incentives involved for those making trading and investment decisions. 
PTFs, as the name implies, invest money for the principals, who then 
benefit directly from the trading gains. This is similar to many 
registered dealers. Similarly, private fund advisers, including their 
affiliates that operate as general partners of private funds, typically 
have a compensation arrangement by which they receive a significant 
portion of gains (often 20 percent). In both cases, these compensation 
arrangements may incentivize aggressive trading.
    Certain hedge funds, on the other hand, may satisfy either the 
qualitative or the quantitative standards of the Proposed Rules, or 
both. The remainder of this section discusses whether current hedge 
fund activity may meet the standards, and describes regulations that 
currently apply to registered hedge fund advisers. The qualitative 
standards could potentially capture certain hedge fund trading 
strategies, such as those that may involve automated or high-frequency 
buying and selling of substantially similar securities in the same day. 
It is also possible that a large hedge fund could trade sufficient 
volumes of U.S. Treasury securities to satisfy the quantitative 
standard. The extent to which hedge funds may satisfy these standards 
is uncertain. Hedge funds do not report their transactions, so they are 
not currently identifiable in CAT data or in TRACE data (beyond the 
subset of U.S. Treasury TRACE discussed previously).\228\ Structured 
data are not available that would indicate how many hedge funds would 
satisfy the qualitative standards, but some hedge fund strategies would 
likely do so. We observe at least one hedge fund (number suppressed in 
Table 1 above) that surpassed the quantitative standard's threshold of 
$25 billion in U.S. Treasuries in July 2021. Additional hedge funds may 
meet the quantitative threshold beyond those we observe--for instance, 
hedge funds who trade outside of covered ATSs and so only appear in 
TRACE anonymously, or hedge funds that trade with other non-FINRA 
members (such as banks) and so do not appear in TRACE at all.
---------------------------------------------------------------------------

    \228\ See supra note 169. Regarding CAT data availability, hedge 
funds are currently not identifiable because CAT Firm Designated ID 
(``FDID'') numbers do not map to broker-dealers' customers. Starting 
in July 2022, CAT data will identify broker-dealers' customers, 
including hedge funds.
---------------------------------------------------------------------------

    One hedge fund strategy that stands out is the Treasury basis 
trade,\229\ as one study estimated that approximately 65 percent of 
hedge funds' total Treasury exposure was tied to the basis trade before 
March, 2020.\230\ A hedge fund's basis trade is not likely to satisfy 
the qualitative standards of the Proposed Rules, because a futures 
contract and a Treasury of similar maturity would not qualify as 
substantially similar securities since the futures contract is not a 
security. Also, since transactions associated with repurchase 
agreements would not count toward the Proposed Rules' quantitative 
standard, most hedge funds' basis trading would likely not satisfy that 
standard. A large-volume

[[Page 23083]]

basis trading hedge fund could hypothetically be captured by the 
quantitative standard, but a recent study suggests that few, if any, 
basis trades involve enough Treasury trading volume to meet the 
threshold of $25 billion per month in four out of the past six calendar 
months.\231\ In 2019, when the basis trade was more attractive than at 
present, the study reported that the aggregate basis trade of the 44 
largest participants held a long Treasury position of about $400-$500 
billion (an average of only about $9-$11 billion per large basis 
trader). Furthermore, the basic strategy of the basis trade involves 
holding Treasury securities to the earlier of: (i) Maturity; or (ii) a 
time when the basis trade is no longer attractive.
---------------------------------------------------------------------------

    \229\ In a long Treasury basis trade, participants take a long 
position in Treasury securities and a short position in Treasury 
futures, and then profit from the eventual convergence of cash and 
futures prices toward the delivery date. Hedge funds typically post 
the Treasury securities as collateral for repo funding.
    \230\ See Barth, Daniel, and R. Jay Kahn, ``Hedge Funds and the 
Treasury Cash-Futures Disconnect,'' OFR Working Paper 21-01 (Apr. 1, 
2021).
    \231\ See id.
---------------------------------------------------------------------------

    As described above in Section III.A, the Commission is mindful that 
registered private fund advisers are currently regulated under the 
Advisers Act, and that advisers' requirements under the Advisers Act 
affect the activities of private funds. This regulatory regime includes 
anti-fraud measures applicable to all advisers and requires that many 
private fund advisers register with the Commission. The Advisers Act 
establishes reporting and recordkeeping requirements for registered 
advisers to private funds for investment protection and systemic risk 
purposes. Specifically, Section 204(a) of the Advisers Act requires 
registered investment advisers to keep certain books and records 
(records of the advised private funds are considered records of the 
adviser for these purposes), and Section 206 subjects registered 
investment advisers to several anti-fraud provisions, including 
antifraud liability with respect to current and prospective clients. 
Registered investment advisers also have fiduciary duties, which 
comprise a duty of care and a duty of loyalty.\232\ Certain registered 
investment advisers must also submit annual and, for certain large 
advisers to certain large hedge funds, quarterly reports to the 
Commission,\233\ and they are subject to Commission examinations.
---------------------------------------------------------------------------

    \232\ See Commission Interpretation Regarding Standard of 
Conduct for Investment Advisers, Investment Advisers Act Release No. 
5248 (June 5, 2019) 84 FR 33669 (July 12, 2019), at 24-25.
    \233\ These reports are submitted through Form PF, which was 
adopted in 2011 as required by the Dodd-Frank Wall Street Reform and 
Consumer Protection Act of 2010. Pub. L. 111-203, 124 Stat. 1376 
(2010). See Reporting by Investment Advisers to Private Funds and 
Certain Commodity Pool Operators and Commodity Trading Advisors on 
Form PF, Advisers Act Release No. 3308 (Oct. 31, 2011), 76 FR 71128 
(Nov. 16, 2011) at section I.
---------------------------------------------------------------------------

    Differences between the regulatory regime that applies to 
registered advisers to private funds and the one that applies to 
securities dealers include leverage constraints, and reporting. 
Registered dealers' leverage is limited by net capital requirements, 
which must be maintained at all times, even intraday, while private 
funds have no formal leverage constraints. Private funds also do not 
report their securities transactions. Their fixed-income transactions 
do not appear in TRACE, or may appear anonymously as part of the 
reporting obligation of broker-dealers. Transactions in fixed-income 
securities other than municipal securities and U.S. Treasury securities 
are reported to TRACE and publicly disseminated (transactions in U.S. 
Treasury securities are reported to regulatory TRACE but not publicly 
disseminated), so markets have more post-trade transparency with 
regards to registered dealers than with regards to private funds. 
Private funds' transactions in national market system (``NMS'') stocks, 
OTC equities, and listed options already appear in CAT, but some 
additional information is only available for firms that report directly 
to CAT. For example, currently, when a PTF sends orders to a broker-
dealer, CAT will include the timestamp indicating when the order was 
received by the broker-dealer, but not the timestamps indicating when 
the order was originated or routed by the PTF. Additionally, if the PTF 
originates a larger order and splits it into smaller orders for routing 
to the broker-dealer, CAT will only include the smaller orders as they 
are received by the broker-dealer, but CAT will not include the larger 
order as originated. Regulators may be able to obtain more complete 
data on private funds' pre- and post-trade securities trading activity 
through examinations, but such information is more readily available 
for registered dealers.
c. Number of Affected Parties
    The precise number of affected parties is uncertain, since existing 
data does not provide a clear picture of all market participants' 
activities. For instance, we do not know how many PTFs routinely 
express trading interests that are at or near the best available prices 
on both sides of the market. Nevertheless, the discussion in this 
section seeks to provide some idea, based on available data, of the 
Proposed Rules' scope. First, we provide data on the number of entities 
that may satisfy the first qualitative factor by ``routinely making 
roughly comparable purchases and sales of the same or substantially 
similar securities in a day.'' The analysis requires us to assume a 
particular functional form for this qualitative standard, but we do not 
mean to imply that the standard would be defined this way in practice. 
For the highest-volume U.S. Treasury security in July 2021 (the 10-year 
on-the-run note, with 15 percent of total U.S. Treasury volume), we 
compute a buy-sell volume imbalance for each firm and for each trading 
day as [verbar]B-S[verbar]/(B+S), where B is the firm's daily buy 
volume and S is the firm's daily sell volume. A low buy-sell imbalance 
indicates purchases and sales in more similar dollar amounts. We then 
repeat the analysis for the highest-volume security in equity markets 
in October 2021 (the SPDR S&P 500 ETF, or ``SPY'', with 6.1 percent of 
the total volume of NMS stocks \234\).
---------------------------------------------------------------------------

    \234\ For SPY volume, we use data from Intraday Indicators 
Aggregate Market Liquidity--WRDS. We rely on CBOE statistics for the 
total dollar volume of NMS stocks. See U.S. Equities Market Volume 
Summary, CBOE, available at https://www.cboe.com/us/equities/market_share/.
---------------------------------------------------------------------------

    For the U.S. Treasury market, Table 3 shows the number of non-FINRA 
member firms, by firm type, that had a ``low'' buy-sell volume 
imbalance--below 10 percent or, alternatively, below 20 percent--for at 
least 14 of the 21 trading days in July 2021. Twenty non-FINRA member 
firms had a buy-sell volume imbalance of less than 20 percent in at 
least 14 of 21 trading days and 15 non-FINRA member firms had a buy-
sell volume imbalance of less than 10 percent in at least 14 of 21 
trading days. All of these firms were PTFs.\235\
---------------------------------------------------------------------------

    \235\ See supra note 218.

[[Page 23084]]

  Table 3--Count of Non-FINRA Member Firms by Type for the Treasury CUSIP With the Highest Volume in July 2021
----------------------------------------------------------------------------------------------------------------
                                                                                  # Firms with at least 14 of 21
                                                                                      days of buy-sell volume
                          Total # firms                              Firm type          imbalance less than
                                                                                 -------------------------------
                                                                                        10%             20%
----------------------------------------------------------------------------------------------------------------
Asset Manager...................................................               *               0               0
Dealer..........................................................              74               0               0
Hedge Fund......................................................              29               0               0
Other...........................................................               *               0               0
PTF.............................................................              34              15              20
Sum of *s.......................................................               6               0               0
                                                                 -----------------------------------------------
    Total.......................................................             143              15              20
----------------------------------------------------------------------------------------------------------------
Notes: 1. Buy-sell volume imbalance = [verbar]B-S[verbar]/B+S, where B is firm's daily buy volume and S is
  firm's daily sell volume. 2. The Treasury CUSIP with the highest volume in July 2021 is for 10-year on-the-run
  Treasury note. In July 2021, the total volume for this CUSIP was about 15 percent of the total volume for all
  Treasury securities. 3. * Suppressed; at least 1 firm of each type exists in the data (all suppressed numbers
  in the first column are greater than zero).

    A comparison of these 15 or 20 firms with the list of 46 firms (see 
Table 1) that had total monthly Treasury-trading volume of more than 
$10 billion \236\ in July 2021 revealed considerable overlap between 
first qualitative standard and the qualitative standard: 17 of the 20 
non-FINRA member PTFs with frequent buy-sell volume imbalance of less 
than 20 percent in Table 3 also had monthly volume greater than $10 
billion in Table 1; 14 of the 15 non-FINRA member PTFs with frequent 
buy-sell volume imbalance of less than 10 percent in Table 3 also had 
monthly volume greater than $10 billion in Table 1.
---------------------------------------------------------------------------

    \236\ As discussed above, we believe that the $10 billion 
threshold in our analysis, which is limited to the subsection of 
TRACE where we can verify traders' identities, corresponds to the 
Proposed Rules' quantitative threshold of $25 billion.
---------------------------------------------------------------------------

    The analysis for the equity market relied on CAT data. While PTFs 
and private funds do not directly report to CAT, their trades in NMS 
stocks, OTC equity securities, and listed options are reported to CAT 
by registered broker-dealers with whom they interact as customers 
(e.g., by trading through a registered broker-dealer or with a 
registered broker-dealer, including with an ATS). Specifically, for the 
original receipt or origination of an order, registered broker-dealers 
report to CAT the Firm Designated ID (``FDID''), which is then assigned 
to various other CAT order events in the order lifecycle. These CAT 
FDIDs uniquely identify trading accounts of registered broker-dealers 
and can represent firm or customer accounts. Firm trading accounts 
include market-making accounts and other proprietary accounts of the 
registered broker-dealer. Customer accounts include mainly 
institutional customer accounts and individual customer accounts, but 
they also include customer average-price accounts and employee accounts 
where an employee of the registered broker-dealer is exercising 
discretion over multiple customer accounts.
    Because the activity of all market participants is captured in CAT 
FDID customer accounts and because the Proposed Rules do not cover 
persons with total assets of less than $50 million, in our analysis of 
SPY we focused on CAT FDID institutional customer accounts. 
Specifically, we computed buy-sell dollar volume imbalance for each CAT 
FDID institutional customer account and each trading day in October 
2021. As in our analysis of Treasuries, we defined buy-sell volume 
imbalance as [verbar]B-S[verbar]/(B+S), where B is the firm's daily buy 
volume and S is the firm's daily sell volume. We also computed the 
total (i.e., buy plus sell) dollar volume in SPY for each CAT FDID 
institutional customer account and each trading day in October 2021.
    Table 4 shows the number of CAT FDID institutional customer 
accounts that had both (i) a ``low'' buy-sell dollar volume imbalance 
in SPY and (ii) total buy plus sell dollar volume in SPY above a de 
minimis threshold, in at least 14 of 21 trading days in October 2021. 
We again define ``low'' to mean less than 10 percent or less than 20 
percent. We include the de minimis threshold to remove small entities 
that are the most likely to be excluded from the Proposed Rules for 
having less than $50 million in assets.\237\ Table 4 shows results for 
two alternate de minimis thresholds: $10,000 per day or $100,000 per 
day. In addition to the number of CAT FDID institutional customer 
accounts that satisfied these criteria, Table 4 also shows the combined 
dollar volume of these accounts as percent of total SPY dollar volume 
in October 2021.
---------------------------------------------------------------------------

    \237\ We did not discuss a de minimis threshold in the previous 
analysis for the U.S. Treasury market (see supra Table 3), because 
imposing a volume threshold even as high as $1 million did not 
affect the count of firms that had low-imbalance and above de 
minimis trading on each of 14 out of 21 days.

 Table 4--Number of CAT FDID Institutional Customer Accounts With at Least 14 of 21 Trading Days in October 2021
           With the Specified Buy-Sell Dollar Volume Imbalance and Buy Plus Sell Dollar Volume in SPY
----------------------------------------------------------------------------------------------------------------
 
----------------------------------------------------------------------------------------------------------------
Buy-sell dollar volume imbalance less than......             10%             20%             10%             20%
                                                 ---------------------------------------------------------------
                                                                                AND
                                                 ---------------------------------------------------------------
Total buy plus sell dollar volume more than.....         $10,000         $10,000        $100,000        $100,000
# CAT FDID institutional customer accounts......              44              61              41              57

[[Page 23085]]

 
Combined dollar volume of these accounts as                  3.3             6.3             3.3             6.3
 percent of total SPY dollar volume in October
 2021...........................................
----------------------------------------------------------------------------------------------------------------
Notes: 1. Buy-sell volume imbalance = [verbar]B-S[verbar]/B+S, where B is firm's daily buy volume and S is
  firm's daily sell volume. 2. There were a total of 21,115 CAT FDID institutional customer accounts that traded
  SPY in October 2021. A CAT FDID ``institutional customer account'' is an institutional account as defined in
  FINRA rule 4512I. See supra note [26] for further details.

    The results in Table 4 indicate that between 41 and 61 CAT FDID 
institutional customer accounts (depending on the thresholds used) had 
both low buy-sell dollar volume imbalance in SPY and above de minimis 
total dollar volume in SPY in at least 14 of 21 trading days in October 
2021, and the combined dollar volume of these accounts represented 
between 3.3 percent and 6.3 percent of total SPY dollar volume in 
October 2021. If the entities behind these accounts are not excluded or 
otherwise exempted, such trading activity could satisfy the qualitative 
standard of ``routinely making roughly comparable purchases and sales 
of the same or substantially similar securities in a day.''
    The precise number of affected parties is highly uncertain, due to 
several shortcomings. The U.S. Treasury market analysis has the 
following caveats. First, we only analyze the buy-sell imbalance within 
a single CUSIP, though firms could potentially satisfy the standard 
based on other CUSIPs or on a combination of CUSIPs (the qualitative 
standard includes trading in either the ``same'' or ``substantially 
similar'' securities). Second, we do not observe the universe of U.S. 
Treasury trading. Third, this analysis imposes quantitative cutoffs in 
place of the qualitative standard, which is ``roughly comparable 
purchases and sales.'' Due to the first two shortcomings, the actual 
number of parties affected by this qualitative standard may be higher 
than the 15 or 20 firms we estimate here. The third shortcoming 
introduces additional uncertainty, since we do not know whether the 
cutoffs assumed in the analysis--buy-sell imbalance less than 10 
percent or 20 percent in at least 14 of 21 trading days--would align 
with the qualitative standard in all cases.
    There are also caveats to the equity market analysis, as follows. 
First, there is currently no one-to-one correspondence between CAT FDID 
accounts and firms (although such information will be available 
starting in July 2022). Some market participants may have several CAT 
FDID institutional customer accounts, and some CAT FDID institutional 
customer accounts may represent more than one customer. Therefore, the 
number of CAT FDID institutional customer accounts that satisfy various 
thresholds in Table 4 does not necessarily equal the number of market 
participants that would satisfy the qualitative standard of ``routinely 
making roughly comparable purchases and sales of the same or 
substantially similar securities in a day.'' Furthermore, some of the 
CAT FDID institutional customer accounts that satisfy various 
thresholds in Table 4 may represent investments companies registered 
under the Investment Act, which are excluded from the Proposed Rules.
    Despite these caveats, we believe that the results in Tables 3 and 
4 provide useful indications about the scope of the Proposed Rules in 
the markets for U.S. Treasury securities and NMS stocks.
3. Externalities
    When market participants who effectively provide liquidity do not 
comply with existing dealer regulations, including rules specifically 
designed to limit risk-taking and to deter manipulative or fraudulent 
behavior, the probability of behaviors that are financially risky, 
manipulative, or fraudulent increases. As described below, such 
behavior on the part of one firm may create negatively externalities on 
other firms. Although all liquidity providers are subject to Exchange 
Act Section 17(a), Section 10(b), and 17 CFR 240.10b-10 (Rule 10b-10 
thereunder), liquidity providers that are not registered as dealers 
currently have more regulatory allowance to accept operational or 
financial risk. For example, net capital requirements limit the 
leverage that dealers are allowed to take on, while PTFs and private 
funds have no regulatory leverage constraints. We estimate that 
qualifying hedge funds are more leveraged than registered dealers. As 
of the second quarter of 2021, registered investment advisers reported 
that qualifying hedge funds had $1.4 trillion in assets that could be 
liquidated within a day, $3.4 trillion in assets that could be 
liquidated within a year, and $3.6 trillion in secured debts, so that 
qualifying hedge funds' aggregate secured debt obligations appear much 
higher than their aggregate liquid assets.\238\ In contrast, the Net 
Capital Rule requires dealers to have highly liquid assets in excess of 
unsubordinated debt.\239\ We are unable to estimate PTFs' leverage due 
to data limitations. PTFs and private funds also may not have the same 
obligations as dealers to implement operational risk controls.\240\ In 
addition, PTFs are not subject to any examination or reporting 
requirements, and neither PTFs nor private funds are required to report 
securities transactions.
---------------------------------------------------------------------------

    \238\ Using data from ``Private Fund Statistics'' (see supra 
note 228), we estimate qualifying hedge funds' net capitalization as 
highly liquid assets minus secured debt. Dollar values of liquid 
assets are from Table 49 (portfolio liquidity for qualifying hedge 
funds as a percent of aggregate net asset value) and Table 4 (net 
asset value), and the value of secured debt is from Table 51 
(borrowings of qualifying hedge funds).
    \239\ See supra notes 76 and 205.
    \240\ See supra note 206 and accompanying text.
---------------------------------------------------------------------------

    Even though all market participants face incentives to remain 
solvent and profitable, certain market participants may not bear all 
the costs of their failure. Therefore, they may not have sufficient 
incentive to ensure their ability to weather adverse shocks. When 
entities have leverage, for example, creditors may bear some of the 
costs of failure. As another example, entities that perform a 
significant share of liquidity provision may disrupt market trading if 
they fail, thus imposing costs on other entities.
    These incentives, or lack of incentives, create externalities that 
market forces alone cannot resolve. A market participant who is unable 
to meet its obligations may harm its creditors, other financial 
institutions related to its creditors, its trading counterparties, and 
other participants in securities markets including investors. Although 
creditors can seek to estimate a borrower's probability of failure and 
price the credit extension accordingly, large losses can potentially 
propagate through the financial system--especially when indirect 
exposures are not well understood and financial firms misread their 
total exposure. Instability in securities markets may appear when a 
failed liquidity provider exits the market or when a stressed liquidity 
provider temporarily reduces its

[[Page 23086]]

activity, thereby reducing market liquidity for all traders until other 
liquidity providers can fill the gap. During the U.S. Treasury market 
volatility in March 2020, PTFs (most of whom are not registered as 
dealers) appeared to especially pull back from market-making activity, 
possibly because ``their lower capitalization relative to dealers may 
[have left] them with less capacity to absorb adverse shocks.'' \241\ 
Other research also shows that, in equity markets, the presence of 
high-frequency traders can further reduce market liquidity during 
periods of extreme volatility (high frequency is one of the primary 
features of PTF activity, according to the 2015 Joint Staff 
Report).\242\ Instability may also appear when a struggling market 
participant rapidly exits a large position in one or more securities, 
leading to volume and price spikes that can quickly push market prices 
away from fundamental values and can overwhelm exchanges and clearing 
houses. The associated volatility may heighten the inventory and 
operational risks of market participants throughout the securities 
markets. The failure of a large market participant can potentially 
propagate instability across securities markets if the failed entity 
actively trades many different asset classes simultaneously.
---------------------------------------------------------------------------

    \241\ See 2021 IAWG Joint Staff Report at 13. Initially, PTFs 
increased trading activity, but they pulled back from market making 
several days later when volatility reached very high levels. (``In 
the first week of March, a large share of the increased trading 
volume came from PTFs, and on March 9, PTFs' share of trading on 
electronic IDB platforms was just over 60 percent, a typical level. 
But as heavy net investor sales continued, the balance of activity 
in the interdealer market shifted . . . PTFs' total share of 
activity fell to a low of 45 percent on March 16. Dealers' total 
volumes on electronic IDB platforms also declined, but less sharply 
than PTFs' volumes.'')
    \242\ See Brogaard, Jonathan, Allen Carrion, Thibaut Moyaert, 
Ryan Riordan, Andriy Shkilko, Konstantin Sokolov, 2018, High 
Frequency Trading and Extreme Price Movements, Journal of Financial 
Economics 128(2), 253-265.
---------------------------------------------------------------------------

    As discussed above, the Commission and the SROs have established 
rules designed to address the externalities related to financial 
stress, by promoting registered dealers' financially responsibility and 
operational capability. Specifically, the rules seek to minimize the 
disruptions that can occur from losses related to operational risk. One 
risk is that a firm may not be able to find offsetting trades, and so 
accumulates an unexpectedly large position that must be rapidly 
liquidated at a loss. Another risk is that errors in trading algorithms 
or other systems (including human errors) lead to an unexpectedly large 
position that must be rapidly liquidated at a loss.\243\ Since, as 
discussed above, losses on the part of one market participant can harm 
others, dealer regulations are designed to mitigate the magnitude of 
these externalities and to reduce the probability that they occur at 
all. However, these regulations do not currently apply to market 
participants that are not registered as dealers. We do not have 
sufficient oversight to understand what risk-management controls PTFs 
may have in place, how much leverage they use, or how liquid their 
assets are. Private funds' risk-taking may be constrained by their 
advisers' fiduciary duties, but, as described above, we believe that 
the average hedge fund is more leveraged than the Net Capital Rule 
would allow (although we acknowledge the uncertainty around our 
estimate).
---------------------------------------------------------------------------

    \243\ In 2012, an algorithm error at a single trader temporarily 
affected the prices of 150 stock tickers, causing some to increase 
or decrease more than 30 percent versus the day's opening. See 
Knight Capital Americas LLC, Exchange Act Release No. 70694 (Oct. 
16, 2013) (settled matter). Another firm, after a change in code and 
in routing logic, erroneously allowed millions of orders with a 
notional value of approximately $116 billion to be sent between 2010 
and 2014. Latour Trading LLC, Exchange Act Release No. 76029 (Sept. 
30, 2015) (settled matter).
---------------------------------------------------------------------------

    The potential for market manipulation or fraud constitutes other 
negative externalities, since such behavior may distort market prices 
or give the perpetrator unfair advantages over other market 
participants. Several elements of the dealer regulatory regime address 
these risks, but some important elements do not currently apply to 
market participants that are not registered as dealers, including 
financial reporting, examinations, and other regulations that 
facilitate examinations. Financial statement reporting, transaction 
reporting (to TRACE \244\ or CAT \245\), and examinations help the 
Commission detect manipulation or fraud and determine whether firms are 
in compliance with applicable regulations. Books and records 
requirements facilitate examinations by ensuring that data entries are 
defined, recorded, and preserved in a consistent manger across all 
dealers. PTFs do not submit financial reports to regulators or report 
their transactions, are not subject to examinations, and have no 
regulatory books and records guidelines. Private funds also do not 
report transactions to TRACE or directly to CAT, but registered private 
fund advisers are subject to regular reporting requirements \246\ and 
to books and records rules. In addition, the Commission has examination 
authority with respect to registered private fund advisers.
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    \244\ Registered dealers report their transactions in fixed-
income securities (other than municipal bonds) to TRACE. 
Unregistered traders' fixed-income transactions only appear in TRACE 
in two cases: (i) When they trade with a FINRA member, the FINRA 
member reports the transaction to TRACE but keeps the counterparty 
anonymous; or (ii) when they trade government securities on an ATS 
that is a FINRA member, the ATS reports the transaction to TRACE 
along with the identity of the counterparties.
    \245\ As discussed above, CAT also includes the transactions of 
firms that are not registered as dealers, but certain other 
information is only available for firms that report directly to CAT.
    \246\ See supra note 233 and accompanying text.
---------------------------------------------------------------------------

    Private information that market participants who are not registered 
as dealers do not report to regulators also creates an impediment to 
regulators' ability to study markets in a structured way, to detect and 
respond to market events, or to inform investors. For regulators, the 
gap between what information registered dealers report and what 
information other market participants report varies by type of 
participant, but may include annual or quarterly reporting, and 
transactions reports. For investors, the gap consists of transactions 
reports for fixed-income securities other than U.S. Treasury and 
municipal securities, which reports are made publicly available. As 
discussed previously, large private fund advisers file regular reports 
to the Commission on Form PF, and the Commission also has authority to 
examine private fund advisers. However, private funds do not report 
their securities transactions to TRACE. Private funds' fixed-income 
transactions may appear in TRACE with the private fund identified, if 
the trade occurs on certain ATSs; the transactions may appear in TRACE 
with the private fund anonymous, if the trade occurs outside certain 
ATSs but with another FINRA member firm; or the transactions may not 
appear in TRACE at all if the private fund trades with a non-FINRA 
member firm. PTFs do submit financial reports to regulators, do not 
report transactions, and are not subject to examinations, so regulators 
have very little insight into their activities. Private funds also do 
not report their securities transactions directly to CAT. As discussed 
previously, their trades in NMS stocks, OTC equities, and listed 
options are indirectly reported to CAT by other counterparties, but CAT 
does not contain certain other information on firms who do not report 
directly.
    Information limitations in the market for U.S. Treasury securities 
became especially apparent during the instability of March 2020. The 
IAWG noted in its 2021 IAWG Joint Staff Report on November 8, 2021, 
that ``In March 2020 . . . there was a [particular]

[[Page 23087]]

need for timely information on the positions and transactions of 
institutions other than dealers.'' \247\ Wider TRACE reporting would 
have provided more of such information. Similar information limitations 
exist in the markets for other fixed-income securities. Unregistered 
market participants' transactions in NMS stocks, OTC equities, and 
listed options are reported to CAT by other (registered) parties, but 
their identities in the data remain anonymous and some pre-trade data 
are not reported at all--e.g., time stamps and indications that a large 
order has been broken into several smaller orders. Investors who rely 
on publicly disseminated TRACE also are impacted by the unreported or 
the anonymity of important market participants' trading activities.
---------------------------------------------------------------------------

    \247\ See supra note 5.
---------------------------------------------------------------------------

4. Competition Among Liquidity Providers
    An analysis of the cash U.S. Treasury market for July 2021 \248\ 
finds that liquidity provision in the market is reasonably 
competitive.\249\ Table 5 below categorizes firms as potential 
liquidity providers in three ways and displays two measures of market 
concentration. In column 1, potential liquidity providers include only 
dealers. In column 2, the list of liquidity providers also includes 
PTFs. In column 3, the list of liquidity providers further includes 
hedge funds.\250\ The first measure of concentration displayed in each 
column is the volume share of the 5 highest-volume firms. The second 
concentration measure is the Herfindahl-Hirschman index (HHI), which is 
equal to the sum of squared market shares. An index of 1 would indicate 
a completely concentrated market with a single liquidity provider. The 
inverse of the HHI provides some intuition by giving the number of 
equally sized competitors that would lead to such a HHI. For example, a 
market with 5 equally sized competitors would have a HHI of \1/5\ or 
0.2. The first column of Table 5 shows that 500 dealers were active in 
the U.S. Treasury market in July, 2021, and that the 5 highest-volume 
of these accounted for 43 percent of the group's total volume. The HHI 
of liquidity provision in this column is 0.054, or comparable to the 
competitive environment that would exist if there were 18 equally sized 
liquidity providers. If we also consider PTFs (limited to the PTFs that 
we can identify in TRACE) to be liquidity providers (column 2), then 
545 liquidity providers were active in July 2021 and the 5 highest-
volume firms accounted for 34 percent of the group's total. The HHI in 
this case is 0.04, which is comparable to the competitive environment 
that would exist among 25 equally sized firms. If we further consider 
hedge funds (again, limited to the hedge funds that we can identify in 
TRACE) to be liquidity providers (column 3), then 586 liquidity 
providers were active in the U.S. Treasury market in July, 2021, and 
the 5 highest-volume firms accounted for one-third of the group's total 
volume. In this third column, the HHI is 0.039, which is comparable to 
the competitive environment that would exist among 26 equally sized 
firms. The minimal difference between the numbers in row 2, columns 2-
3, does not suggest that hedge funds do not provide significant 
liquidity in the U.S. Treasury market. The minimal difference only 
means that the hedge funds that we can identify in TRACE do not appear 
to provide significant liquidity in the U.S. Treasury market.
---------------------------------------------------------------------------

    \248\ See supra notes 217, 218, and 219, and accompanying text.
    \249\ A Federal Reserve analysis from 2020 finds that activity 
on electronic interdealer platforms is slightly more concentrated, 
with an HHI of 0.082. See supra note 2.
    \250\ Firms are classified based on an understanding of the 
individual firms' businesses. See supra note 218.

                Table 5--Competition Among Liquidity Providers in the Treasury Market, July 2021
                             [The largest 5 firms in this table overall are dealers]
----------------------------------------------------------------------------------------------------------------
                                                                                                     Liquidity
                                                                     Liquidity       Liquidity      providers:
                                                                    providers:      providers:       dealers +
                                                                      dealers        dealers +     PTFs + hedge
                                                                                       PTFs            funds
----------------------------------------------------------------------------------------------------------------
No. of liquidity providers......................................             500             545             586
Share of entire TRACE Sample....................................           52.1%           68.7%           69.4%
Top-5 volume share (within group)...............................           42.6%           33.6%           33.3%
HHI.............................................................           0.054           0.040           0.039
comparable to N equal-size competitors..........................              18              25              26
----------------------------------------------------------------------------------------------------------------

    The Commission also understands that a large number of firms 
provide liquidity provision in the markets for corporate bonds and for 
equities (not necessarily the same firms), and that intermediation 
activity is reasonably competitive in both markets. Research has 
documented that, as of the first quarter of 2020, about 600 dealers 
intermediated in the market for corporate bonds, but that the top 10 
dealers controlled approximately 70 percent of the volume.\251\ Another 
analysis by the Commission \252\ found that of the 3,972 broker-dealers 
that filed Form X-17a-5 (FOCUS report) in 2016, 430 of them were also 
members of U.S. equities exchanges, and that the largest 20 broker-
dealers controlled approximately 75 percent of the total assets of all 
broker-dealers.
---------------------------------------------------------------------------

    \251\ O'Hara, Maureen, and Alex Zhou, Anatomy of a Liquidity 
Crisis: Corporate Bonds in the Covid-19 Liquidity Crisis, May 2020, 
working paper.
    \252\ Transaction Fee Pilot for NMS Stocks, Exchange Act Release 
No. 82873 (Mar. 14, 2018), 83 FR 13008 (Mar. 26, 2018).
---------------------------------------------------------------------------

    The current competitive landscape among liquidity providers is also 
shaped by the difference in regulatory treatment between registered 
dealers and unregistered market participants that the Commission 
believes perform dealer-like roles in the markets. The additional 
requirements to which registered dealers are subject may result in 
higher compliance for registered dealers, which could incentivize less-
regulated firms such as PTFs to gain market share, or to continue to 
gain market share, from more-regulated dealers. These dynamics may 
especially apply to the electronic interdealer segment of the Treasury 
market, where PTFs now account for a majority of trading activity (as 
of 2019).\253\
---------------------------------------------------------------------------

    \253\ See supra note 2.

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[[Page 23088]]

C. Economic Effects, Including Impact on Efficiency, Competition, and 
Capital Formation

    As described above in Section II, the Commission believes that the 
Proposed Rules would support the stability and transparency of U.S. 
Treasury and other securities markets by closing the regulatory gap 
that currently exists and ensuring consistent regulatory oversight of 
persons engaging in the type of activities described in the Proposed 
Rules. As described in Section II, the Commission believes that the 
Proposed Rules would support the stability and transparency of U.S. 
Treasury and other securities markets by closing the regulatory gap 
that currently exists and ensuring consistent regulatory oversight of 
persons engaging in the type of activities described in the Proposed 
Rules. Specifically, the rules would result in increasing the share of 
liquidity provision undertaken by persons who are subject to dealer 
rules related to financial risk-taking, reporting, deceptive practices, 
and examinations. As discussed above, these benefits would all be 
associated with PTFs registering as dealers, but private funds' 
potential dealer registration would also bring benefits related to net 
capital requirements and transaction reporting. If registered private 
fund advisers were to register as dealers, the benefits of transaction 
reporting would apply, but the marginal benefits of other reporting 
requirements, net capital requirements, books and records rules, and 
examinations might be very small, since the regulatory regime that 
applies to registered private fund advisers already contains similar 
provisions to the rules that apply to dealers.
    Costs of the Proposed Rules include registration and membership 
fees, costs of record-keeping and reporting, and costs associated with 
net capital requirements. Additionally, the Proposed Rules may 
influence patterns of market participation, which may in turn affect 
competition among liquidity providers, market efficiency, and capital 
formation.
1. Benefits
    The Proposed Rules seek to mitigate the externalities, discussed in 
the baseline, that may arise when market participants who effectively 
provide liquidity experience financial stress, engage in manipulative 
or fraudulent behavior, or whose operations are not subject to 
regulatory oversight. To the extent that unregistered market 
participants engage in activities that satisfy the qualitative or 
quantitative standards of the Proposed Rules, requiring them to 
register as dealers would promote stability in U.S. securities markets 
and would help protect investors. Specifically, the Proposed Rules 
would bring liquidity providers that are not registered as dealers into 
compliance with dealer regulations related to financial risk-taking, 
reporting, and examinations. As previously discussed, we believe that 
PTFs would be the most affected parties, though potentially some 
private funds may be affected. Registered private fund advisers may 
also be affected under limited circumstances.
    Regulations on Financial Risk-Taking: Registered dealers are 
subject to net capital requirements (Exchange Act Rule 15c3-1) and to 
various risk management rules that promote operational integrity.\254\ 
Unregistered PTFs and private funds do not have net capital 
requirements, and they may not have the same risk-management 
requirements. The Net Capital Rule requires dealers to maintain 
sufficient liquid resources to meet all liabilities at all times,\255\ 
thus limiting their probability of financial failure by constraining 
leverage and creating incentives against excessive risk-taking,\256\ 
and also helping protect creditors. These provisions help reduce the 
externalities related to defaults and disorderly trading, which may 
arise due to firms' financial stress. As discussed in Section III, the 
Proposed Rules would require registration of persons whose trading 
activity contributes significantly to market liquidity or to price 
discovery. Such persons have the ability to significantly impact the 
markets, so placing these regulatory safeguards around their risk-
taking would benefit investors and support capital formation by 
promoting stable markets. These benefits would be largest for PTFs and 
private funds, who are currently under no regulations related to risk-
taking, but they could also apply to registered private fund 
advisers.\257\
---------------------------------------------------------------------------

    \254\ See supra notes 205 and 206 and accompanying text.
    \255\ See supra note 76.
    \256\ See also Capital, Margin, and Segregation Requirements for 
Security-Based Swap Dealers and Major Security-Based Swap 
Participants and Capital and Segregation Requirements for Broker-
Dealers, Exchange Act Release No. 86175 (June 21, 2019), 84 FR 43872 
(Aug. 22, 2019).
    \257\ Registered private fund advisers are currently regulated 
in their capacity as advisers, and the current adviser regulation 
contains provisions related to financial risk-taking. However, the 
Proposed Rules could also apply to advisers that trade with their 
own proprietary capital. The adviser's proprietary trading is not 
currently regulated, so the benefits of registering such an adviser 
would be comparable to the full benefit of registering a PTF.
---------------------------------------------------------------------------

    Regulations on Reporting: Registered dealers must file annual 
reports with the Commission that include audited financial 
statements.\258\ They also report their transactions of NMS stocks, OTC 
equities, and listed options directly to CAT,\259\ and registered 
dealers who have selected FINRA as their SRO report their transactions 
in fixed-income securities (other than municipal securities) to 
TRACE.\260\ Unregistered PTFs do not report any of this information to 
regulators. Private fund advisers report certain information on the 
private funds they manage to the Commission annually (and, for certain 
large advisers of certain large hedge funds, each quarter), but they do 
not report transactions.
---------------------------------------------------------------------------

    \258\ See supra note 77.
    \259\ Unregistered market participants' transactions in NMS 
stocks, OTC equities, and listed options are reported to CAT by 
other (registered) parties, but, as described above, certain 
information is only available for entities that report directly to 
CAT.
    \260\ Unregistered market participants' transactions in U.S. 
Treasury securities may appear in TRACE under certain conditions, 
but they usually appear with the unregistered counterparty's 
identity kept anonymous. See supra note 217.
---------------------------------------------------------------------------

    Reporting requirements, particularly requirements to report 
transactions directly, enable regulators to conduct market research 
that informs their efforts to detect or respond to market events, to 
inform investors, to ensure that dealers' activities are in compliance 
with regulation, and research has also shown that transaction reporting 
can improve market efficiency and liquidity.\261\ Transaction reporting 
in general enhances the ability of the Commission and SROs to more 
efficiently and in a more timely manner monitor trading, which should 
further enhance the ability of the Commission and SRO staff to 
effectively enforce SRO rules and the Federal securities laws, rules, 
and regulations.\262\ This enhanced ability of the Commission and SROs 
staff to enforce the Federal securities laws, rules, and regulations 
should help ensure the efficiency and stability of the markets, and 
promote investor confidence in the fairness of the securities markets, 
which may in turn promote capital formation.\263\ TRACE for fixed-
income securities other than municipal securities and U.S. Treasury

[[Page 23089]]

securities are made publicly available to investors, so this 
transaction reporting to non-regulatory TRACE particularly informs 
investors. The absence of reporting requirements for consequential 
market participants thus creates negative externalities for investors. 
The Proposed Rules are designed to target persons whose activities can 
significantly impact markets or who otherwise trade large volumes of 
U.S. Treasuries Securities; requiring such persons to further inform 
regulators of their activities further promotes market stability, 
investor protection, and capital formation. To the extent that 
registered dealers were to select an SRO other than FINRA, the benefits 
related to fixed-income transaction reporting would not appear.\264\
---------------------------------------------------------------------------

    \261\ See Bessembinder, Hendrik, William Maxwell, and Kumar 
Venkataraman, 2006, ``Market Transparency, Liquidity Externalities, 
and Institutional Trading Costs in Corporate Bonds,'' Journal of 
Financial Economics 82(2), 251-288; and Edwards, Amy K., Lawrence E. 
Harris, and Michael S. Piwowar, 2007, ``Corporate Bond Market 
Transaction Costs and Transparency,'' The Journal of Finance 62(3), 
1421-1451.
    \262\ See Consolidated Audit Trail, Exchange Act Release No. 
62174 (May 26, 2010), 75 FR 32556 (June 8, 2010).
    \263\ Id.
    \264\ See supra note 77.
---------------------------------------------------------------------------

    Regulations on Deceptive Practices: Registered dealers are subject 
to the anti-manipulation and antifraud provisions of Sections 10(b) and 
17(a) of the Exchange Act, but they are also subject to the specific 
anti-manipulative and other anti-fraud rules promulgated under Section 
15(c) of the Exchange Act.\265\ Neither unregistered PTFs nor private 
funds are subject to Section 15(c)(1) and related rules, but registered 
private fund advisers are subject to antifraud provisions under Section 
206 of the Advisers Act. The persons whom the Proposed Rules would 
require to register would be those with the ability to significantly 
impact markets, including by manipulation or fraud. Therefore, 
subjecting them (particularly the PTFs) to the anti-fraud rules that 
apply to registered dealers, would contribute to fair and orderly 
markets and to investor protection.
---------------------------------------------------------------------------

    \265\ See supra note 80.
---------------------------------------------------------------------------

    Regulations related to Examinations: Registered dealers are subject 
to examinations by the Commission and by the relevant SRO, and they are 
also required to comply with certain books and records 
requirements.\266\ PTFs that are not registered as dealers are not 
subject to examinations or to books and records rules, but the 
Commission has examination authority with respect to private fund 
advisers, and registered private fund advisers are subject to 
recordkeeping requirements. Examinations help regulators detect 
manipulative or fraudulent activities, as well as verify more generally 
that persons are in compliance with all relevant regulations. Books and 
records requirements facilitate examinations by ensuring that data 
entries are defined, recorded, and preserved in a consistent manner 
across all dealers. The Proposed Rules would allow regulators to 
examine firms that currently are not registered, including PTFs, who 
are not currently subject to examinations, but whose activity 
contributes significantly to market liquidity or to price discovery. 
Therefore, since examinations help ensure compliance with other rules, 
this benefit of the Proposed Rules supports all the other benefits 
discussed above.
---------------------------------------------------------------------------

    \266\ See supra note 79.
---------------------------------------------------------------------------

    Some entities who would satisfy the Proposed Rules' qualitative or 
quantitative standards might nevertheless avoid the registration 
requirement by exiting a liquidity-providing strategy. If unregistered 
entities were to exit and bid-ask spreads were to meaningfully widen, 
other (registered) dealers might step in to replace the lost activity. 
This scenario would result in an effective transfer of dealer activity 
from unregistered market participants to registered dealers, and so 
would preserve the benefits (and costs) of the Proposed Rules.
2. Costs Associated With Becoming a Registered Dealer
    The Proposed Rules would impose costs on certain market 
participants, including costs of registering with the Commission and 
with an SRO, recordkeeping and reporting costs, direct costs that may 
stem from meeting net capital requirements (i.e., continuously 
monitoring capitalization), and self-evaluation as to whether one is a 
dealer or not.\267\
---------------------------------------------------------------------------

    \267\ Registered dealers would be subject to requirements, such 
as Exchange Act Rule 15c3-1 and 17 CFR 240.17a-1, 240.17a-3, 
240.17a-4, and 240.17-a5 (Exchange Act Rules 17a-1, 17a-3, 17a-4, 
and 17-a5).
---------------------------------------------------------------------------

    The initial registration costs would include the costs associated 
with filing Form BD and Form ID, SRO membership application fees, and 
any related legal or consulting costs that may be needed to (e.g., 
ensure compliance with rules), including drafting policies and 
procedures as may be required. The ongoing costs would include the 
costs associated with amending Form BD, ongoing fees associated with 
SRO membership, and any legal work relating to SRO membership.
    The Commission estimates compliance costs of approximately $600,000 
initially and $265,000 annually thereafter to register as a broker-
dealer with the Commission, become a member of an SRO, and comply with 
the associated dealer regulations.\268\ The costs include personnel 
hours, outside legal services, building and maintaining books and 
records systems, obtaining or maintaining employee licensure, and 
direct costs associated with calculating net capital to comply with the 
Net Capital Rule. The compliance costs associated with net capital, 
reporting, and recordkeeping requirements would depend on the business 
structure of a registered dealer (i.e., the capital structure of a 
dealer and the scope of a dealer's activities).\269\ For example, these 
costs may be lower for private funds, since their advisers are already 
subject to requirements concerning books and records, examinations, and 
internal control systems. In general, the costs would also vary 
significantly depending on the types of securities a broker-dealer 
holds, the level of net capital a broker-dealer maintains, and whether 
a broker-dealer carries customer accounts, carries for other broker-
dealers, is a registered investment adviser, is affiliated with an 
investment adviser, or transacts in a principal capacity.\270\
---------------------------------------------------------------------------

    \268\ Exchange Act Release No. 76324 (Oct. 30, 2015), 80 FR 
71388, 71509 (Nov. 16, 2015) (``Regulation Crowdfunding Adopting 
Release'') estimates the costs of registering as a dealer, becoming 
a member of a national securities association, and complying with 
the associated regulation would be approximately $520,000 initially 
and $230,000 annually thereafter. Most of these costs involve 
personnel hours and legal services (currently, the direct costs of 
FINRA registration range between $7,500 and $60,000). Since the cost 
of legal services and nominal wages paid to administrative and 
financial operations employees have approximately risen with the 
consumer price index since 2015, we adjust these estimates for 
inflation of 15.33 percent between October 2015 and September 2021, 
based on the Consumer Price Index for All Urban Consumers (CPI-U) as 
recorded by the Bureau of Labor Statistics. See Consumer Price 
Index, U.S. Bureau of Labor Statistics, available at https://www.bls.gov/cpi/data.htm. We therefore estimate the costs to be 
approximately $600,000 initially and $265,000 annually thereafter. 
We recognize that these costs may vary significantly across 
registrants, depending on facts and circumstances.
    \269\ 2022 ATS Proposing Release at 15629.
    \270\ Id.
---------------------------------------------------------------------------

    For dealers that select an SRO other than FINRA (i.e., an 
exchange), we believe that the initial and ongoing costs would be less 
than $600,000 initially and less than $265,000 annually thereafter. 
Dealers that select FINRA as their SRO would incur the costs of 
reporting their fixed-income transactions (other than municipal 
securities) to TRACE.\271\ Dealers that

[[Page 23090]]

trade NMS stocks, OTC equities, or listed options would incur the costs 
of reporting their transactions in these securities to CAT.\272\ As 
discussed in the CAT Notice and in the CAT Approval Order, the costs of 
CAT reporting may vary significantly across broker-dealer firms 
depending on the size and scope of their activities (e.g., the number 
of CAT-reportable order events that the firm has and whether the firm 
needs to report customer information).\273\ In these releases, the 
Commission estimated that the one-time implementation costs related to 
CAT reporting could range from $849,000 for small firms that did not 
previously report to the Order Audit Trail System (OATS) to $7,231,000 
for many large firms.\274\ The Commission also estimated that the 
ongoing annual costs of CAT reporting could range from $443,000 for 
small firms to $4,756,000 for many large firms.\275\ We adopt these 
estimates and adjust them for inflation between November 2016 and 
September 2021.\276\ This adjustment yields a per-firm cost estimate of 
approximately $965,000 to $8,218,000 for one-time implementation plus 
ongoing costs of approximately $503,000 to $5,405,000 annually.
---------------------------------------------------------------------------

    \271\ TRACE fees include system fees of between $20 and $260 per 
month plus transaction reporting fees, which are one of: (i) $0.475 
per trade for trades with par value up to $200,000, (ii) $2.375 per 
million dollars par value for trades with par value more than 
$200,000 but less than $1 million, or (iii) $2.375 per trade for 
trades with par value of at least $1 million or $1.50 per trade for 
agency pass-through MBS that are traded TBA or SBA-backed ABS that 
are traded TBA. See FINRA Rule 7730 (Trade Reporting and Compliance 
Engine), available at https://www.finra.org/rules-guidance/rulebooks/finra-rules/7730.
    \272\ See Joint Industry Plan; Order Approving the National 
Market System Plan Governing the Consolidated Audit Trail, Exchange 
Act Release No. 79318 (Nov. 15, 2016), 81 FR 84696 (Nov. 23, 2016) 
(``CAT Approval Order''). See also See Joint Industry Plan; Notice 
of Filing of a National Market System Plan Regarding Consolidated 
Equity Market Data, Exchange Act Release No. 77724 (Apr. 27, 2016), 
81 FR 30614 (May 17, 2016) (``CAT Notice'').
    \273\ See CAT Notice, 81 FR 30712-30726 and CAT Approval Order, 
81 FR 84857-84862.
    \274\ See CAT Notice, 81 FR 30725-30726 and CAT Approval Order, 
81 FR 84861-84862. The Commission also estimated that small firms 
that previously reported to OATS would incur lower one-time 
implementation costs related to CAT reporting--$424,000. However, we 
believe that this lower estimate for related implementation costs is 
not applicable to firms that would be covered by the Proposed Rules, 
because firms that would be required to register as dealers and 
start reporting to CAT as a result of the Proposed Rules are 
unlikely to have prior experience of reporting to OATS.
    \275\ See id.
    \276\ The estimates are adjusted for an inflation rate of 13.66 
percent based on the Bureau of Labor Statistics data on CPI-U 
between November 2016 and September 2021. See supra note 268.
---------------------------------------------------------------------------

    The wide range of these estimates indicates significant uncertainty 
about the costs related to CAT reporting that individual firms that 
trade equities or options may have to incur if they are required to 
register as dealers as a result of the Proposed Rules. We make two 
related observations. First, firms that would start reporting to CAT as 
a result of the Proposed Rules are likely to have a relatively large 
number of CAT-reportable order events, since the Proposed Rules are 
targeting significant liquidity-providers. Therefore, for these firms, 
the costs of CAT reporting are likely to be higher than the lower 
bounds of $965,000 for implementation costs and $503,000 for ongoing 
annual costs.\277\ Second, firms that would be required to report to 
CAT as a result of the Proposed Rules do not carry customer accounts 
and would therefore not need to report any customer information to CAT. 
Thus, for these firms, the costs of CAT reporting are likely to be 
lower than the upper bounds of $8,218,000 for implementation costs and 
$5,405,000 for ongoing annual costs.\278\
---------------------------------------------------------------------------

    \277\ It is also possible that a firm would satisfy the 
quantitative or the qualitative standards of the Proposed Rules by 
transacting in asset other than those that are reported to CAT. Such 
a firm would still be required to register as a dealer and report 
any transactions it may have in NMS stocks, OTC equities, and listed 
options. However, such a firm could have a relatively low number of 
CAT-reportable order events and hence relatively low costs of CAT 
reporting.
    \278\ In the CAT Approval Order, the Commission discussed its 
belief that the requirement of the CAT NMS Plan to report customer 
information represents a significant source of CAT reporting costs. 
See CAT Approval Order, 81 FR 84868-84869. Furthermore, in the CAT 
Notice, the Commission estimated CAT reporting costs for 14 
electronic liquidity providers (``ELPs''), which are large 
registered broker-dealers that do not carry customer accounts and 
are not FINRA members. See CAT Notice, 81 FR 30724-30726. The 
Commission estimated that for these ELPs the one-time implementation 
costs related to CAT reporting would be $3,876,000 and the annual 
ongoing costs of CAT reporting would be $3,226,000. When adjusted to 
inflation between November 2016 and September 2021 (see supra note 
265), these estimates become approximately $4,405,000 for the one-
time implementation costs and approximately $3,667,000 for the 
annual ongoing costs of CAT reporting. Because the ELPs do not carry 
customer accounts and operate as liquidity providers in the markets 
for equities and options, their estimated costs of CAT reporting may 
be applicable to some of the larger firms that would be required to 
report to CAT as a result of the Proposed Rules.
---------------------------------------------------------------------------

    The Commission recognizes that the costs associated with obtaining 
and maintaining SRO membership and reporting transactions may vary 
significantly depending on entity characteristics, activity 
characteristics, and the degree of the firm's reliance on outside legal 
or consulting advice. For example, the costs of FINRA membership \279\ 
depend on, among other things, the number of associated persons being 
registered, the scope of brokerage activities, revenue,\280\ the number 
of registered persons, the number of branch offices, and trading 
volume. TRACE and CAT reporting costs also vary depending on security 
type, order size, and trading venue, among other factors. Entities with 
a smaller number of registered persons, fewer brokerage activities, 
smaller trading volume, and smaller revenue would face lower direct 
costs.
---------------------------------------------------------------------------

    \279\ See Schedule of Registration and Exam Fees, FINRA, 
available at https://www.finra.org/registration-exams-ce/classic-crd/fee-schedule#examfees, for the schedule of FINRA registration 
fees.
    \280\ FINRA imposes a Gross Income Assessment as follows: (1) 
$1,200 on a Member Firm's annual gross revenue up to $1 million; (2) 
a charge of 0.1215 percent on a Member Firm's annual gross revenue 
between $1 million and $25 million; (3) a charge of 0.2599 percent 
on a Member Firm's annual gross revenue between $25 million and $50 
million; (4) a charge of 0.0518 percent on a Member Firm's annual 
gross revenue between $50 million and $100 million; (5) a charge of 
0.0365 percent on a Member Firm's annual gross revenue between $100 
million and $5 billion; (6) a charge of 0.0397 percent on a Member 
Firm's annual gross revenue between $5 and $25 billion; and (7) a 
charge of 0.0855 percent on a Member Firm's annual gross revenue 
greater than $25 billion. When a firm's annual gross revenue exceeds 
$25 million, the maximum of the current year's revenue and average 
of the last three years' revenue is used as the basis for the income 
assessment. See also Regulatory Notice 09-68: SEC Approves Changes 
to the Personnel Assessment and Gross Income Assessment Fees, FINRA 
(effective Jan. 1, 2010), available at https://www.finra.org/rules-guidance/notices/09-68.
---------------------------------------------------------------------------

    In addition to the monitoring costs incurred to comply with the Net 
Capital Rule, described above, newly registered dealers who previously 
held less capital than what is required would have to increase their 
capitalization either by raising equity or by scaling back trading 
activities. However, since higher levels of net capital reduce a firm's 
probability of default, these direct costs of net capital requirements 
may be partially offset by reductions in the firm's cost of capital.
    Market participants may also incur costs related to self-evaluation 
regarding whether the qualitative standards describe their activities. 
Since the quantitative standard is based on monthly Treasury-trading 
volume, which is easy to define and measure, we do not believe any 
market participants would incur additional costs to assess whether this 
standard would require them to register.
    Some currently unregistered market participants may be affiliated 
with other firms that are currently registered dealers, and in such 
cases, the unregistered firm may seek to avoid the direct costs 
described above by shifting trading volume to its affiliated dealer. 
Other entities that are captured by the Proposed Rules may restructure 
their legal organization to isolate the activity that triggered the 
rules into a separate entity. Such activity shifting and legal 
reorganizations may incur costs, such as the costs of changing computer 
systems or paying attorney fees. To the extent that the securities-
dealing activity ends

[[Page 23091]]

up being conducted by an entity that registers with the Commission, all 
the benefits of Proposed Rules still apply.
    In response to a related initiative in 2010,\281\ at least one PTF 
expressed its opinion to the Commission that the costs of PTF 
registration are not justified because equity markets worked well 
during the autumn of 2008 (then the most-recent financial crisis) and 
because the PTF believed that PTFs in general help market integrity by 
providing liquidity during difficult situations.\282\ However, the 2021 
IAWG Joint Staff Report showed that, during the U.S. Treasury market 
volatility of March 2021, PTFs' share of market intermediation fell 
considerably more than did dealers' share.\283\ These results suggest 
that PTFs may not, or may no longer, promote market stability in all 
securities markets in ways that registered dealers do not. Accordingly, 
we believe that the benefits of registering PTFs who are also 
significant market participants justify the costs.
---------------------------------------------------------------------------

    \281\ See 2010 Equity Market Structure Concept Release.
    \282\ See Letter from Berkowitz, Trager & Trager, LLC (Apr. 21, 
2010).
    \283\ See supra note 241 for further discussion of changes in 
trading activity of PTFs during the U.S. Treasury market volatility 
of March 2020.
---------------------------------------------------------------------------

    PTFs, since they do not have clients or customers, would bear the 
costs of registration themselves. Private funds, however, may either 
bear the costs themselves or the costs may be borne by their investment 
adviser. If the funds bear the costs, these costs would be passed on to 
the funds' investors.
3. Other Effects, Including Impact on Efficiency, Competition, and 
Capital Formation
    The Proposed Rules may produce several indirect benefits or costs, 
based on the extent to which they encourage or discourage participation 
in securities markets. The Proposed Rules could either increase or 
decrease market participation due to three possible effects. First, 
fairer and more stable markets could encourage greater market 
participation. Second, registration and compliance costs could lead 
some currently unregistered liquidity providers to decrease their 
activity or even exit the market. If they do so, other firms may or may 
not increase their own activity to compensate. Third, large-volume and 
small-volume market participants may choose to differentially increase 
or decrease their market participation, so that the Proposed Rules may 
affect market concentration. Changes in patterns of market 
participation could affect market efficiency, market competition, and 
capital formation.
a. Effects on Efficiency
    The Proposed Rules could affect market efficiency--i.e., price 
discovery, or the speed with which new information or developments 
impact the market price of a security--depending on whether the net 
effect on market participation is positive or negative. Other things 
equal, markets with greater participation are more liquid. The net 
effect on market efficiency is uncertain. On the one hand, improved 
investor confidence might lead to greater market participation that 
improves market efficiency for two reasons. First, new market 
participants may have additional information, in which case the orders 
they submit based on this information would aid price discovery. 
Second, higher trading volumes would mean that prices would react 
faster to changes in securities' fundamental values.
    On the other hand, if important and informed market participants, 
such as PTFs or hedge funds, permanently reduce their market activity 
or their pursuit of certain investment strategies, market efficiency 
may decline in the markets for some securities.
b. Effects on Competition
    The net effect that the Proposed Rules may have on competition is 
uncertain. On the one hand, the Proposed Rules would promote 
competition by standardizing the regulatory treatment of--i.e., 
leveling the playing field for--all firms engaged in the activities 
that meet the proposed standards described above.\284\ For instance, 
the Proposed Rules would require all firms that conduct these 
activities to incur the costs of complying with the same rules 
regarding registration, net capital requirements, books and records, 
and other requirements; whereas currently, only those who are 
registered bear these costs.
---------------------------------------------------------------------------

    \284\ Although the analysis discussed in the baseline showed 
that registered dealers have much greater market share in the U.S. 
Treasury market (see supra Table 1 and note 217), PTFs are the 
largest participants in the automated interdealer Treasury market 
(see supra note 2).
---------------------------------------------------------------------------

    On the other hand, other effects on competition among liquidity 
providers \285\ depend on the extent to which the rules encourage or 
discourage market participation by affected parties. The indirect 
benefits to all market participants--particularly the additional risk-
mitigating provisions and the Commission's increased ability to detect 
manipulation or fraud--may encourage some market participants to 
increase their liquidity-providing activities. However, the direct 
costs that the Proposed Rules would impose on currently unregistered 
firms who currently engage in covered activities may cause them to 
scale back these activities.\286\ For example, if a hedge fund strategy 
were to fall under the Proposed Rules, the fund engaged in that 
activity might exit the strategy altogether in order to avoid 
registration. Some research on high-frequency trading has shown that 
firms engaged in this activity improve competition across trading 
venues, by arbitraging cross-venue differences in security prices,\287\ 
which suggests that their withdrawal may have a negative impact on 
competition. Furthermore, in response to a similar initiative in 2010, 
commenters stated that registering PTFs as dealers would negatively 
impact competition among liquidity providers by creating barriers to 
entry.\288\
---------------------------------------------------------------------------

    \285\ As previously described, the qualitative standards of the 
Proposed Rules apply to persons whose activities have ``the effect 
of providing liquidity.'' See Section III.B.
    \286\ See also Capital, Margin, and Segregation Requirements for 
Security-Based Swap Dealers and Major Security-Based Swap 
Participants and Capital Requirements for Broker-Dealers, Exchange 
Act Release No. 68071 (Oct. 18, 2012), 77 FR 70213 (Nov. 23 2012).
    \287\ See supra note 216.
    \288\ See Letter from Alston Trading, LLC, RGM Advisors, LLC, 
Hudson River Trading, LLC, and Quantlab Financial, LLC (Apr. 23, 
2010).
---------------------------------------------------------------------------

    Any net effect on competition would likely be small because, as 
discussed in the baseline for competition above (including Table 5 for 
the U.S. Treasury market), we understand that liquidity provision in 
securities markets is reasonably competitive even among currently 
registered dealers. The precise magnitude of the effect in competition 
is also uncertain, and would depend on whether the benefits would 
accrue more to currently registered dealers with large or with small 
volumes and on whether the costs are more burdensome to currently 
unregistered firms with large or with small volumes. We believe the 
benefits would apply to all market participants alike. The quantitative 
factor in proposed Rule 3a44-2 would apply only to firms with Treasury-
trading volume above the threshold. However, the qualitative factors 
may also apply to small-volume firms, and some costs may be greater for 
these firms on two points. First, FINRA's Gross Income Assessment \289\ 
generally declines as a percentage of revenue for larger firms. Second, 
fees associated with reporting to TRACE \290\ are smaller per dollar 
par value for larger trades.
---------------------------------------------------------------------------

    \289\ See supra note 280.
    \290\ See supra note 271.

---------------------------------------------------------------------------

[[Page 23092]]

c. Effects on Capital Formation
    The Proposed Rules' effect on capital formation may depend on any 
net change in market participation (aggregate trading volume) that 
results from the rules, and on any decrease or increase in competition 
among liquidity providers. Other things equal, higher volumes and more 
competition improve liquidity. In turn, greater liquidity increases 
asset prices, reduces borrowing costs, and promotes capital formation.
    The likely effect on aggregate market participation is uncertain. 
On the one hand, we believe the increased regulatory burdens would fall 
on relatively few firms while the benefits of fairer and more stable 
markets would extend broadly to all market participants--since the 
baseline risk of an institution's failure would also propagate broadly 
by reducing market liquidity, increasing price volatility, or imposing 
losses on creditors. In the U.S. Treasury market, for example, we 
estimate that no more than 46 firms have dollar trading volumes that 
surpass the $25 billion threshold in the quantitative standard of 
proposed Rule 3a44-2, as discussed in the baseline. The actual number 
of affected firms may be lower, since some of these 46 may be exempt 
financial institutions,\291\ and still others may be affiliated with 
other firms that are dealers, in which case the corporate parent could 
potentially avoid the costs of the rule by shifting certain activities 
to the registered dealer affiliate.
---------------------------------------------------------------------------

    \291\ See supra notes 9 and 29.
---------------------------------------------------------------------------

    On the other hand, the Proposed Rules may cause some market 
participants to scale back or exit certain liquidity-providing 
strategies in order to avoid registration; or, even if they do not, 
compliance costs including net capital requirements might lead them to 
scale back some activities. If such reductions in liquidity provision 
occur, we cannot be certain that other market participants would arise 
to replace the lost liquidity. Even if other participants do eventually 
arise, lost liquidity can lead to mispricing in the short run.
    Changes in aggregate trading volume may also affect market 
liquidity in other ways. If the Proposed Rules increase investors' 
confidence in the stability and fairness of markets, they may increase 
their participation. Increased trading volume theoretically enhances 
market liquidity because of the following two ways in which high volume 
benefits dealers.\292\ First, dealers who trade a lot can spread their 
fixed costs over more trades. Second, dealers' risk is smaller when 
high volume makes it easier to adjust or lay off net positions. These 
benefits make liquidity provision more profitable, which results in 
narrower bid-ask spreads if dealers compete with one another for 
orders.
---------------------------------------------------------------------------

    \292\ See Larry Harris, ``Trading and Exchanges: Market 
Microstructure for Practitioners,'' Oxford University Press, 2003.
---------------------------------------------------------------------------

    Effects on market competition can also influence market liquidity. 
If the Proposed Rules enhance competition, bid-ask spreads may 
decrease; if the Proposed Rules weaken competition, bid-ask spreads may 
increase. As discussed above, the net effect that the Proposed Rules 
would have on competition is uncertain.

D. Reasonable Alternatives

    The Commission considered several alternatives to the Proposed 
Rules: (1) Raise or lower the quantitative factor; (2) replace 
qualitative standards with quantitative standards; (3) remove the 
exclusion for registered investment companies; (4) remove the exclusion 
from aggregation for registered investment adviser client accounts 
where the advisers only have investment discretion; (5) exclude 
registered investment advisers; (6) exclude private funds; and (7) 
require private funds and private fund advisers to report transactions.
1. Alternative Thresholds for the Quantitative Factor
    The quantitative factor would require registration of all entities 
with monthly trading volume above $25 billion during four out of the 
past six calendar months. A threshold lower than $25 billion would 
increase the costs of the Proposed Rules (by requiring many more 
entities to register as dealers), but would only somewhat increase the 
benefits (since additional registrants would not represent very much 
aggregate trading volume). A threshold higher than $25 billion would 
decrease both the benefits and the costs of the Proposed Rules (by 
requiring registration of fewer firms but failing to capture a 
significant portion of aggregate trading volume).
    Figure 2 shows the wide range of alternative thresholds that the 
Commission considered in an analysis \293\ of U.S. Treasury-market 
transactions reported to TRACE during July 2021.\294\ As described in 
the baseline, since the subset of TRACE data where we can verify the 
identity of the traders (``identified TRACE'') is approximately 42 
percent of all non-FINRA members' transactions in TRACE (many non-FINRA 
members only appear anonymously, also as described above), we believe 
that the thresholds in Figure 2 (based on identified TRACE) are 
approximately 42 percent of the equivalent threshold in the overall 
U.S. Treasury market. Therefore, the threshold of $10 billion in Figure 
2 corresponds with the Proposed Rules' quantitative threshold of $25 
billion.\295\ Within identified TRACE, this figure shows the percentage 
of firms (dashed line) and the percentage of volume that would be 
captured by various quantitative thresholds. A threshold of $10 billion 
would capture 26 percent of the firms and 96 percent of the volume in 
the identified TRACE data. Larger thresholds include many fewer firms 
but also considerably less trading volume--e.g., moving from a 
threshold of $10 billion to $50 billion would capture 32 fewer firms 
(18 percent of the 174 firms in the analysis) but also 15 percent less 
of the aggregate non-FINRA member trading volume in TRACE. Smaller 
thresholds include more firms but not very much additional volume--
moving from a threshold of $10 billion to $5 billion would capture 8 
more firms (5 percent of the 174 firms in the analysis) but only 1 
percent more of the aggregate non-FINRA member trading volume in TRACE. 
The threshold that maximizes the Proposed Rule's benefits (by including 
firms responsible for a large percentage of trading volume) while 
minimizing costs (by limiting the number of firms that will be required 
to register) appears to be somewhere around $10 billion.
---------------------------------------------------------------------------

    \293\ See supra note 217 and accompanying text.
    \294\ The analysis also back-tested the thresholds to July 2019 
and found that the results based on July 2021 data are qualitatively 
representative.
    \295\ We assume that all entities in identified TRACE are 
proportionally represented in the anonymous TRACE data. If firms 
engaging in dealer activities are overrepresented in identified 
TRACE, then the Proposed Rules' quantitative threshold of $25 
billion would correspond to a threshold in Figure 2 of higher than 
$10 billion.

---------------------------------------------------------------------------

[[Page 23093]]

[GRAPHIC] [TIFF OMITTED] TP18AP22.037

2. Provide Only Quantitative Factors
    The Proposed Rules list several factors that will guide the 
Commission in determining whether securities market participants are 
dealers. With the exception of paragraph (a)(4) in proposed Rule 3a44-
2--dollar volume of cash Treasury trading--all factors are qualitative. 
Alternatively, the Commission could replace the qualitative factors 
with quantitative ``bright-line'' thresholds, above or below which 
firms would be required to register as dealers. Particularly, the first 
qualitative factor (``routinely mak[es] roughly comparable purchases 
and sales of the same or substantially similar securities in a day'') 
could express a range of buy-sell balance, and firms could be required 
to register if their securities-trading activity features a buy-sell 
balance within that range.
    The alternative rule could define buy-sell balance as the absolute 
value of (buy-sell)/(buy + sell), so that the measure would always fall 
between 0 (as when buy = sell) and 1 (as when a firm only buys or only 
sells). The buy-sell balance could then be calculated each day for each 
individual security (CUSIP), for each market participant. Any market 
participant with a buy-sell balance for a security that is below a 
quantitative threshold for a certain number of days per month could be 
required to register as a government securities dealer or as a dealer. 
For example, a firm whose buy-sell balance for CUSIP 78462F103 (SPDR 
S&P 500 ETF) that is below 0.2 for 13 days in a month could be required 
to register as a dealer, regardless of its buy-sell balance in other 
securities. The Proposed Rules could also have a de minimis cutoff, so 
that no market participant that trades less than, say, $1 million per 
month could be required to register. The de minimis could help ensure 
that small, individual investors would not be required to register.
    Table 6 below shows the number of market participants who would be 
required to register under a few iterations of this alternative rule, 
based on the buy-sell balance of the highest-volume securities in the 
U.S. Treasury market (10-yr on-the-run note) and the equity market 
(SPDR S&P 00 ETF). The first row of data show that, if the rule were 
based on having a buy-sell balance of less than 0.2 (a 60-40 split or 
more even) for at least 14 days in a month, with a daily de minimis 
threshold of $10,000, then the firms behind 61 CAT FDID institutional 
customer accounts would have to register as dealers based on their 
trading of SPY, and 20 firms (not necessarily the same ones) would have 
to register as government securities dealers based on their trading of 
the 10-yr on-the-run Treasury note. It is possible that additional 
firms would meet the proposed dealer definition based on their trading 
of other securities, but the securities in Table 6 are by far the 
largest in their respective classes (equities and Treasuries).

                 Table 6--Number of Market Participants Satisfying Quantitative Buy-Sell Balance
----------------------------------------------------------------------------------------------------------------
                                                                                             10-yr note (on-the-
     De minimis volume  (applied daily)      (buy-sell)/(buy + sell)           SPY                  run)
----------------------------------------------------------------------------------------------------------------
$10,000....................................                     <0.2                    61                    20
                                                                <0.1                    44                    15
$100,000...................................                     <0.2                    57                    20

[[Page 23094]]

 
                                                                <0.1                    41                    15
----------------------------------------------------------------------------------------------------------------
This table shows the number of firms that would be required to register based on the buy-sell balance of their
  trades of SPY (SPDR S&P 500 ETF, the highest-volume equity security) or the 10-yr on-the-run Treasury note
  (the highest-volume Treasury security). Specifically, the rule would require registration of firms with a buy-
  sell balance below a certain threshold for either of these securities, for 14 days in a month. The firms that
  satisfy the buy-sell balance factor based on SPY (column 1) are not necessarily the same as those that satisfy
  the factor based on the 10-yr note (column 2). Equity data is for October 2021, and market participants are
  identified by CAT FDID institutional customer accounts. CAT FDID institutional customer account is not
  synonymous with firm; a firm may have multiple CAT FDIDs, and multiple firms may also share a single CAT FDID.
  Furthermore, some of the CAT FDID customer accounts may represent investment companies registered under the
  Investment Company Act, which are not covered by the Proposed Rules. Treasury data is for July 2021.

    We considered including ``similar securities'' in rule text and 
interpreting ``similar securities'' as including different CUSIPs that 
share similar characteristics--e.g., same issuer or same maturity. 
However, such an approach may be too broad, and may include a wide 
variety of arbitrage strategies or relative value strategies. For 
example, firms may trade securities with the same issuer and similar 
maturity when they arbitrage between on-the-run Treasuries against off-
the-run Treasuries, or they may trade securities of similar issuers and 
similar characteristics when they take a long position in one company's 
equity offset by a short position in a close competitor. Since we do 
not view such strategies as descriptive of being a dealer, this 
alternative to the Proposed Rules defines the buy-sell balance within 
CUSIP only.
    Using quantitative factors instead of qualitative factors could 
provide firms with additional certainty as to whether they should 
register as dealers. However, we believe that a rule that relies solely 
on quantitative factors would be less capable of distinguishing firms 
that are liquidity providers from those that are not because at present 
we do not have a reliable quantitative framework for defining liquidity 
provision. Therefore, this alternative would likely require 
registration of some firms that are not liquidity providers or market-
makers, thus burdening these firms with all of the registration costs 
described above without doing much to enhance market stability or 
improve regulators' insight into market activity (since such firms do 
not play central market roles); and the alternative may also miss some 
firms that do provide liquidity, thus allowing them to continue 
operating without registering, as in the baseline.
3. Remove Exclusion for Registered Investment Companies
    The Proposed Rules explicitly exclude registered investment 
companies. An alternative would be to remove this exclusion, as it is 
possible that these entities might satisfy the criteria and, 
collectively or individually, might be important liquidity providers in 
securities markets. Requiring them to register as dealers might further 
standardize the books and records practices of market liquidity 
providers and, to the extent that registered investment companies were 
to choose FINRA as their SRO, their registration might contribute 
toward the completeness of fixed-income transaction reporting in TRACE. 
For non-municipal securities, additional TRACE reporting would enhance 
market stability by supporting regulators' ability to research, 
understand, and respond to market events; for non-government and non-
municipal securities, additional TRACE reporting would also better 
inform investors. If, instead of registering as dealer, registered 
investment companies were to cease the activities that satisfy the 
Proposed Rules' standards, these benefits would not materialize.
    This alternative would also lead to significant costs and 
uncertainty. Registered investment companies have different business 
models and serve different market purposes than PTFs or hedge funds, 
and the regulatory regime that has evolved around liquidity providers 
might be inadequate or inappropriate for registered investment 
companies. As one example, it is unclear how registered investment 
companies would comply with net capital requirements, or how they would 
define net capital. Moreover, the benefits of the proposals as applied 
to registered investment companies would be significantly lower than 
for PTFs because registered investment companies are subject to an 
extensive regulatory framework based on the Investment Company Act and 
associated rules.\296\
---------------------------------------------------------------------------

    \296\ See supra notes 104-114 and accompanying text.
---------------------------------------------------------------------------

    We believe that affected parties will not have sufficient 
incentives to evade the proposal by registering as a registered 
investment company, because the requirements to be a registered 
investment company are sufficiently similar to the proposal. For 
example, registered investment companies must be securities issuers, 
they are significantly constrained in their ability to borrow, and they 
are subject to limitations on their derivatives positions. We 
understand that leverage and derivatives are integral parts of the 
types of trading strategies that would satisfy the Proposed Rules' 
standards. Moreover, registered investment companies are required to 
disclose details regarding their portfolio holdings. We acknowledge 
that the costs and benefits of applying the Proposed Rules to 
registered investment companies may differ from applying them to other 
market participants, and we request comment on the costs and benefits 
of excluding registered investment companies.
4. Remove the Exclusion From Aggregation for Registered Investment 
Adviser Client Accounts Where the Advisers Only Have Investment 
Discretion
    A registered investment adviser may have client accounts (including 
private funds and separately managed accounts) that are not registered 
as dealers but whose activity individually or collectively satisfies 
the Proposed Rules' activity standards. The Proposed Rules would not 
attribute the activities of those accounts to the registered investment 
adviser if the adviser's control over the accounts simply involves 
investment discretion. The Proposed Rules would require the registered 
investment adviser to aggregate client accounts if it exercises certain 
control rights over the accounts (voting rights, capital contributions, 
or rights to amounts upon dissolution).\297\ Alternatively, the rule 
could require registered investment advisers to

[[Page 23095]]

aggregate client accounts over which the adviser only has investment 
discretion, so that all advisers would need to aggregate all of their 
(non-dealer) discretionary accounts in order to determine whether their 
activities fall under the Proposed Rules.
---------------------------------------------------------------------------

    \297\ See text in proposed Rules 3a5-4(b)(2)(ii)(B) and 3a44-
2(b)(2)(ii)(B).
---------------------------------------------------------------------------

    This alternative would strengthen the benefits described above by 
applying more broadly the leverage constraints and transaction 
reporting requirements of the dealer regulations. If advisers or their 
funds were to avoid registration by reducing or ceasing certain trading 
activities, the marginal benefits of this alternative could still 
materialize if registered dealers then increased their own activities 
to compensate. This alternative would further promote market stability 
by ensuring that liquidity-providing activities are conducted by 
entities that maintain minimum levels of net capital. The alternative 
would result in a greater number of liquidity-providing transactions 
being directly reported to TRACE (to the extent that new dealer 
registrants choose FINRA as their SRO) or to CAT, which would enhance 
market stability by supporting regulators' ability to research, 
understand, and respond to market events. For non-government and non-
municipal fixed-income securities, additional TRACE reporting would 
also better inform investors since FINRA disseminates those data 
publicly. The benefits of TRACE reporting would not appear for new 
dealer registrants choosing another SRO, such as a stock exchange.
    However, this alternative would also carry disadvantages, including 
greater regulatory costs and possible negative effects on market 
liquidity, efficiency, and competition. Regulatory costs, including 
those associated with registration, reporting, and maintaining net 
capital, would increase for any new dealer registrants, but self-
assessment costs would also increase for advisers that must continually 
determine their obligations under the Proposed Rules. If advisers or 
their accounts were to avoid registration by reducing or ceasing 
certain trading activities, and if registered dealers did not then 
increase their own activities to compensate, then market efficiency and 
liquidity may decline. Also, aggregating all discretionary accounts for 
the purposes of determining an adviser's obligations under the Proposed 
Rules may reduce efficiency by creating incentives against economies of 
scale associated with large advisers. Finally, competition among 
liquidity providers may decline, but we believe that liquidity 
provision in U.S. security markets would remain reasonably competitive.
    Relative to the Proposed Rules, this alternative would primarily 
apply dealer regulations to smaller private funds or separately managed 
accounts (via their advisers), since larger funds and their advisers 
are more likely to be covered under the Proposed Rules. These benefits 
of new leverage constraints and additional transaction reporting would 
be small for such funds, while the funds would still bear all the 
registration and compliance costs described above. Therefore, we 
believe the additional benefits of this alternative would not justify 
the additional costs.
5. Exclude Registered Investment Advisers
    The Proposed Rules do not aggregate registered investment advisers' 
client accounts (including private funds or separately managed 
accounts) and attribute their activity to the adviser, as long as the 
adviser's control over the accounts is limited to investment 
discretion. Accounts over which the adviser's control rights include 
voting rights, capital contributions, or the rights to amounts upon 
dissolution would be aggregated and attributed to the adviser in 
determining whether the Proposed Rules would require the adviser to 
register as a dealer.\298\ Registered investment advisers can also 
trigger application of the Proposed Rules due to their own proprietary 
trading. Alternatively, the Commission could propose an exclusion for 
all registered investment advisers.
---------------------------------------------------------------------------

    \298\ See text in proposed Rules 3a5-4(b)(2)(ii)(B) and 3a44-
2(b)(2)(ii)(B).
---------------------------------------------------------------------------

    The additional exclusion would reduce the benefits described above, 
since it would limit the Proposed Rules' ability to raise the share of 
liquidity provision conducted by firms that are subject to the dealer 
rule. The Proposed Rule would do so by: (i) Inducing additional 
liquidity providers to register as dealers; or (ii) inducing liquidity 
providers who do not wish to register as dealers to cease their 
liquidity-providing strategies. If registered investment advisers 
categorically were excluded, it is likely that fewer of them would 
register and that fewer of them would register client accounts in order 
to avoid aggregating those accounts' activities. Although registered 
advisers would still be subject to the existing regulations described 
above, including conduct rules, books and records requirements, 
reporting requirements, and examinations, their exclusion would 
undermine the Proposed Rules' benefits related to net capital 
requirements and to transaction reporting.
    This alternative would also reduce the costs, since fewer entities 
would be subject to the dealer regime and fewer entities would be 
induced to exit certain trading strategies in order to avoid the dealer 
regime. The potential negative effects on market liquidity, efficiency, 
and competition would therefore be smaller under this alternative.
    However, a blanket exclusion may exclude, now or in the future, a 
large adviser whose client accounts, if aggregated, would meet the 
standards of the Proposed Rules and provide significant liquidity in 
the securities markets. Also, we are concerned that this alternative 
rule might lead a PTF to seek to register as an investment adviser 
rather than as a dealer, in order to escape the requirements to report 
transactions and maintain net capital. The regulations that apply to 
registered investment companies place greater restrictions on leverage 
and derivatives positions than do the regulations that apply to 
registered investment advisers, so it would be unlikely that PTFs would 
seek to register as investment companies. Due to the way in which this 
alternative compromises the Proposed Rules' benefits related to net 
capital requirements and transaction reporting, and due also to the 
possibility for regulatory arbitrage, we believe the benefits of this 
alternative do not justify the costs.
6. Exclude Private Funds
    The Proposed Rules do not exclude private funds, since we believe 
some private funds--particularly some hedge funds--engage in activities 
that have the effect of providing liquidity in securities market. The 
Commission could explicitly exclude private funds in order to avoid 
deterring certain fund strategies that may not be indicative of 
securities dealing. This exclusion would potentially reduce some of the 
benefits that would accrue if the Proposed Rules were to capture 
liquidity-providing activities--either because funds who satisfy the 
qualitative or quantitative standards register, or else because funds 
who satisfy the standards exit certain strategies to avoid registration 
and other (registered) dealers then arise to replace the lost activity. 
Excluding private funds would also reduce the costs of lost liquidity 
and reduced market efficiency that could materialize if affected 
private funds exit certain strategies without being replaced.
    However, the Commission believes that some private funds 
effectively provide liquidity in securities markets, and the Proposed 
Rules' intent is to

[[Page 23096]]

apply dealer regulation to these activities. Excluding these funds 
would guarantee that the dealer regime would fail to capture this type 
of securities dealing activity. Furthermore, a blanket exclusion for 
hedge funds may provide an opportunity for regulatory arbitrage. For 
example, PTFs may seek to restructure themselves as private funds, thus 
preempting the intended benefits of the Proposed Rules. This may be 
particularly true given the similarity in incentive structures 
mentioned above.
    Despite the high degree of uncertainty around private funds and the 
possible negative effects of requiring some private funds to register 
as dealers, the Commission believes that not excluding them is more 
likely to meet the Proposed Rules' objectives than excluding them. We 
therefore believe the costs of excluding private funds are justified by 
the potential benefits.
7. Transaction Reporting Regime for Private Funds and Private Fund 
Advisers
    As described above, private funds and private fund advisers not 
registered as dealers are not subject to the requirement to report 
transactions to TRACE. Alternatively, the Commission could require 
private funds or private fund advisers who meet the rule's activity 
standards to report to TRACE, without requiring them to comply with the 
other aspects of dealer regulations. However, this alternative would 
not require private funds or private fund advisers to comply with net 
capital requirements, or with the operational risk-management 
provisions of the dealer regime. Therefore, this alternative would fail 
to address all of the potential for negative externalities that may 
stem from market participants' financial stress, as discussed in the 
baseline. It would also entail greater complexity in the need to 
specify how alternative entities would become subject to TRACE 
reporting.
    This alternative would reduce key benefits of the proposal, but it 
would also reduce some of the costs related to registration, compliance 
with requirements other than transaction reporting to TRACE, and self-
evaluation. We do not believe the reduced costs justify the reduced 
benefits.

E. Requests for Comment

    The Commission requests comment on all aspects of this initial 
economic analysis, including whether the analysis has: (1) Identified 
all benefits and costs, including all effects on efficiency, 
competition, and capital formation; (2) given due consideration to each 
benefit and cost, including each effect on efficiency, competition, and 
capital formation; and (3) identified and considered reasonable 
alternatives to the proposed new rules and rule amendments. We request 
and encourage any interested person to submit comments regarding the 
Proposed Rules, our analysis of the potential effects of the Proposed 
Rules and proposed amendments, and other matters that may have an 
effect on the Proposed Rules. We request that commenters identify 
sources of data and information as well as provide data and information 
to assist us in analyzing the economic consequences of the Proposed 
Rules and proposed amendments. We also are interested in comments on 
the qualitative benefits and costs we have identified and any benefits 
and costs we may have overlooked. In addition to our general request 
for comments on the economic analysis associated with the Proposed 
Rules and proposed amendments, we request specific comment on certain 
aspects of the proposal:
Baseline
    57. Are firms that are not registered as dealers or as government 
securities dealers important participants in securities market? If so, 
in which markets and in what ways? Do commenters agree that such firms 
have emerged as de facto liquidity providers?
    58. The quantitative factor in proposed Rule 3a44-2 would identify 
as government securities dealers persons that trade more than $25 
billion of Treasury securities monthly, during four out of the past six 
calendar months. Do you agree that approximately 46 firms would be 
government securities dealers based on this standard? Responses should 
provide empirical support, if possible.
    59. One of the rules' qualitative factors would identify as dealers 
and government securities dealers persons that ``routinely [make] 
roughly comparable purchases and sales of the same or substantially 
similar securities in a day.'' Approximately how many firms would be 
dealers or government securities dealers based on this factor? 
Responses should provide empirical support, if possible.
    60. Do you agree that PTFs have emerged as de facto liquidity 
providers in the market for U.S. Treasury securities? To what extent do 
PTFs also provide liquidity in other securities markets?
    61. Do you agree with the Commission's description of the potential 
market disruptions that may follow the failure of one or more market 
participants that are not registered as dealers--i.e., the potential 
negative effects on creditors, counterparties, market liquidity, and 
market volatility? Why or why not?
    62. Do you agree with the Commission's description of the 
externality that arises due to the possibility of manipulative or 
fraudulent behavior? Why or why not?
    63. Do you agree with the Commission's statement that the lack of 
regulatory insight into the practices and transactions of unregistered 
market participants negatively impacts markets by constraining 
regulators' ability to understand and respond to significant market 
events? Why or why not?
Economic Effects, Including Impact of Efficiency, Competition, and 
Capital Formation
    64. Do you agree that the Proposed Rules would promote investor 
protection and orderly markets by increasing the financial stability 
and resiliency of individual liquidity providers in securities markets, 
particularly those liquidity providers that are not registered with the 
Commission? Why or why not?
    65. Do you agree that the Proposed Rules would promote investor 
protection and orderly markets by better informing regulators through 
more comprehensive transaction reporting, annual filings by newly 
registered dealers, and examinations?
    66. Do you agree that the Proposed Rules would deter manipulation 
or fraud behavior, by improving the Commission's ability to detect it? 
Why or why not?
    67. Do you agree with the Commission's description of the direct 
costs incurred by new registrants--e.g., costs of registering, costs of 
SRO membership, costs of reporting, etc.? Why or why not?
    68. Do you agree that the Proposed Rules would have offsetting 
positive and negative effects on market participation, market 
liquidity, price efficiency, competition among liquidity providers, and 
capital formation? Are the overall effects on each of these likely to 
be positive or negative? Please explain.
    69. How will firms that register as dealers in response to the 
Proposed Rules bring themselves into compliance with the net capital 
requirements? Please provide details regarding how the new dealers will 
implement and manage their compliance.
    70. Do you expect market participants, especially those captured by 
the Proposed Rules, to alter their legal structures? What changes are 
they

[[Page 23097]]

likely to make and what effects will those changes have?
    71. Do you expect some market participants, whom the Proposed Rules 
would otherwise require to register as dealers, to reduce or exit 
certain activities in order to avoid the requirement to register? What 
types of entities would do so, and which activities would be affected?
Reasonable Alternatives
    72. What benefits or costs would result from setting the threshold 
on the quantitative factor higher or lower than $25 billion monthly 
volume during four out of the past six calendar months?
    73. What benefits or costs would result from limiting the 
quantitative threshold by incorporating other characteristics of 
trading activity, such as turnover or balance of buys and sells? For 
instance, an alternative quantitative standard could require firms to 
register as dealers if they met BOTH a dollar volume threshold and a 
turnover threshold; another alternative standard could require firms to 
register if they meet BOTH a buy-volume threshold and a sell-volume 
threshold.
    74. What benefits or costs would result from replacing the 
qualitative factors with quantitative ``bright-line'' thresholds?
    75. What benefits and costs would result from removing the 
exclusion for registered investment companies? How would these benefits 
and costs differ from the benefits and costs described above?
    76. What benefits or costs would result from removing the exclusion 
for registered investment advisers that only have investment discretion 
over client funds?
    77. What benefits or costs would result from excluding private 
funds?
    78. Are there other reasonable alternatives to the Proposed Rules 
that the Commission has not addressed? Commenters should describe any 
additional alternatives, along with the benefits and costs relative to 
the Proposed Rules.

VI. Paperwork Reduction Act

    The Proposed Rules would define terms and do not in and of 
themselves contain ``collection of information'' requirements within 
the meaning of the Paperwork Reduction Act of 1995 (``PRA'').\299\ 
However, the new definitions may affect the number of respondents that 
meet the ``collection of information'' requirements in other Commission 
rules. The Commission believes the Proposed Rules may affect the number 
of respondents for 14 Commission rules with existing collections of 
information. The potential changes in burden under the Office of 
Management and Budget (``OMB'') Control Numbers corresponding to the 
existing collections of information are explained in more detail below. 
An agency may not conduct or sponsor, and a person is not required to 
respond to, a collection of information unless the agency displays a 
currently valid control number. If the new definitions in the Proposed 
Rules are adopted, the Commission will submit change requests to OMB to 
update the number of respondents for these 14 other rules. The titles 
of these existing collections of information are:
---------------------------------------------------------------------------

    \299\ 44 U.S.C. 3501 et seq.

------------------------------------------------------------------------
                                                            OMB control
               Rule                      Rule title             No.
------------------------------------------------------------------------
17 CFR 240.15b1-1 (Rule 15b1-1)     Application for            3235-0012
 and Form BD.                        registration of
                                     brokers or dealers.
17 CFR 240.15Ca1-1 (Rule 15Ca1-1)   Notice of government
 and Form BD.                        securities broker-
                                     dealer activities.
17 CFR 240.15Ca2-1 (Rule 15Ca2-1)   Application for
 and Form BD.                        registration of
                                     government
                                     securities brokers
                                     or government
                                     securities dealers.
17 CFR 240.15b3-1 (Rule 15b3-1)...  Amendments to
                                     application.
17 CFR 240.15b6-1 (Rule 15b6-1)     Withdrawal from            3235-0018
 and Form BDW.                       registration.
17 CFR 240.15Cc1-1 (Rule 15Cc1-1)   Withdrawal from
 and Form BDW.                       registration of
                                     government
                                     securities brokers
                                     or government
                                     securities dealers.
17 CFR 240.15c2-7 (Rule 15c2-7)...  Identification of          3235-0479
                                     quotations.
Rule 15c3-1.......................  Net capital                3235-0200
                                     requirements for
                                     brokers and dealers.
Rule 15c3-5.......................  Risk management            3235-0673
                                     controls for
                                     brokers or dealers
                                     with market access.
Rule 17a-3........................  Records to be made         3235-0033
                                     by certain exchange
                                     members, brokers,
                                     and dealers.
Rule 17a-4........................  Records to be              3235-0279
                                     preserved by
                                     certain members,
                                     brokers, and
                                     dealers.
Rule 17a-5........................  Reports to be made         3235-0123
                                     by certain exchange
                                     members, brokers
                                     and dealers.
17 CFR 240.17a-11 (Rule 17a-11)...  Notification               3235-0085
                                     provisions for
                                     brokers and dealers.
17 CFR 242.613 (Rule 613).........  Consolidated audit         3235-0671
                                     trail.
------------------------------------------------------------------------

A. Summary of Collection of Information

    The Proposed Rules create burdens under the PRA by adding 
additional respondents to some of the 10 existing collections of 
information noted above. The Proposed Rules would not create any new 
collections of information. The collections of information applicable 
to the additional respondents \300\ are summarized in the table below.
---------------------------------------------------------------------------

    \300\ See Section VI.C for a description of the categories of 
respondents.

------------------------------------------------------------------------
     Collection of information                     Burden
------------------------------------------------------------------------
Rule 15b1-1 and Form BD...........  Register as a dealer (required by
                                     Section 15 of the Exchange Act).
Rule 15Ca1-1 and Form BD..........  Notification requirement that a
                                     dealer is acting as a government
                                     securities dealer.
Rule 15Ca2-1 and Form BD \301\....  Register as a government securities
                                     dealer (required by Section 15C of
                                     the Exchange Act).
Rule 15b3-1.......................  Comply with requirements to amend
                                     Form BD.
Rule 15b6-1 and Form BDW..........  File a notice of withdrawal using
                                     Form BDW.
Rule 15Cc1-1 and Form BDW \302\...  File a notice of withdrawal using
                                     Form BDW.
Rule 15c2-7.......................  Enumerates certain criteria that
                                     broker-dealers must meet to furnish
                                     a quotation for a security to an
                                     inter-dealer quotation system.

[[Page 23098]]

 
Rule 15c3-1.......................  Comply with notification and record-
                                     keeping obligations concerning
                                     capital requirements set for
                                     brokers-dealers.
Rule 15c3-5.......................  Comply with requirements to
                                     establish and maintain risk
                                     management and supervisory
                                     procedures.
Rule 17a-3........................  Comply with requirements to make and
                                     keep certain business records.
Rule 17a-4........................  Comply with requirements to keep
                                     certain records.
Rule 17a-5........................  Comply with requirements to make,
                                     keep, and report certain records.
Rule 17a-11.......................  Comply with notification
                                     requirements concerning broker-
                                     dealers that are experiencing
                                     certain financial or operational
                                     difficulties.
Rule 613..........................  Comply with requirements to report
                                     certain information.
------------------------------------------------------------------------

B. Proposed Use of Information
---------------------------------------------------------------------------

    \301\ Financial institutions that are government securities 
dealers not exempt under 17 CFR part 401 must use Form G-FIN to 
notify their appropriate regulatory agency of their status as a 
government securities dealer. See 17 CFR 449.1.
    \302\ Financial institutions that are government securities 
dealers must use Form G-FINW to notify their appropriate regulatory 
agency that they have ceased to function as a government securities 
broker or dealer. See 17 CFR 449.2.
---------------------------------------------------------------------------

    The existing information collections affected by the Proposed Rules 
are used as described below:
1. Rules 15b1-1, 15Ca-1, 15Ca2-1, and 15b3-1 and Form BD
    Section 15(a)(1) of the Exchange Act provides that it is unlawful 
for broker-dealers to solicit or effect transactions in most securities 
unless they are registered as broker-dealers with the Commission 
pursuant to Section 15(b) of the Exchange Act. In addition, Section 
15C(a)(1) of the Exchange Act provides that it is unlawful for 
government securities broker-dealers, other than registered broker-
dealers and certain financial institutions, to solicit or effect 
transactions in government securities unless they are registered as 
government securities broker-dealers with the Commission pursuant to 
Section 15C(a)(2) of the Exchange Act. To implement these provisions, 
the Commission adopted Rules 15b1-1, 15Ca-1, and 15Ca2-1 and Form BD. 
In addition, Rule 15b3-1 requires a broker-dealer to file amendments to 
Form BD only when information originally reported in Form BD changes or 
becomes inaccurate.
    The Commission uses the information disclosed by applicants in Form 
BD: (1) To determine whether the applicant meets the standards for 
registration set forth in the provisions of the Exchange Act; (2) to 
develop a central information resource where members of the public may 
obtain relevant, up-to-date information about broker-dealers and 
government securities broker-dealers, and where the Commission, other 
regulators, and SROs may obtain information for investigatory purposes 
in connection with securities litigation; and (3) to develop 
statistical information about broker-dealers and government securities 
broker-dealers. Without the information disclosed in Form BD, the 
Commission could not effectively implement policy objectives of the 
Exchange Act with respect to its investor protection function.
2. Rules 15b6-1 and 15Cc-1 and Form BDW
    Section 15(b)(5) of the Exchange Act provides that any broker-
dealer may, upon such terms and conditions as the Commission deems 
necessary or appropriate in the public interest or for the protection 
of investors, withdraw from registration by filing a written notice of 
withdrawal with the Commission. In addition, Section 15C(c)(1)(B) of 
the Exchange Act provides that any government securities broker or 
government securities dealer may, upon such terms and conditions as the 
Commission may deem necessary in the public interest or for the 
protection of investors, withdraw from registration by filing a written 
notice of withdrawal with the Commission. To implement the foregoing 
statutory provisions of the Exchange Act, the Commission has 
promulgated Rules 15b6-1 and 15Cc1-1, as well as Form BDW, the uniform 
request for broker-dealer withdrawal.
    The Commission uses the information disclosed by applicants in Form 
BDW, as required by Rules 15b6-1 and 15Cc1-1 to: (1) Determine whether 
it is in the public interest to permit broker-dealers and notice-
registered broker-dealers to withdraw from registration; (2) develop 
central information resources where the Commission and other government 
agencies and SROs may obtain information for investigatory purposes in 
connection with securities litigation; and (3) to develop statistical 
information about broker-dealers, notice-registered broker-dealers, and 
government securities broker-dealers. Without Form BDW, the Commission, 
SROs, state regulators, the Commodity Futures Trading Commission, and 
the public would be without an important source of information 
regarding broker-dealers and notice-registered broker-dealers that are 
seeking to withdraw from registration.
3. Rule 15c2-7
    The information required by Rule 15c2-7 is necessary for the 
Commission's mandate under the Exchange Act to prevent fraud, 
manipulation and deceptive acts and practices. When Rule 15c2-7 was 
adopted, the information it required was critical to the Commission's 
role in monitoring broker-dealers and protecting the integrity of over 
the counter markets. It was through the disclosures required by Rule 
15c2-7 that inter-dealer quotation systems would reflect the demand for 
and market activity related to the securities quoted on these systems.
4. Rule 15c3-1
    Rule 15c3-1 is intended to help ensure that broker-dealers maintain 
at all times sufficient liquid resources to meet all liabilities by 
requiring that broker-dealers maintain a minimum amount of net capital. 
A broker-dealer's minimum net capital requirement is the greater of: 
(1) A fixed minimum amount set forth in Rule 15c3-1 based on the types 
of business that the broker-dealer conducts; or (2) a financial ratio. 
Exchange Act Section 15(c)(3) and Rule 15c3-1 promulgated thereunder 
prohibit a broker-dealer from effecting transactions in securities 
while not in compliance with its minimum net capital requirement.
    Various provisions of Rule 15c3-1 require that broker-dealers 
provide written notification to the Commission and/or their designated 
examining authority (``DEA'') under certain circumstances. For example, 
a broker-dealer must send notice to the Commission if it withdraws more 
than 10 percent or 20 percent of its excess net capital. In addition, a 
broker-dealer electing to compute its net capital using the alternative 
method under paragraph (a)(1)(ii) of Rule 15c3-1 must notify its DEA of 
the election in writing, and thereafter must continue to compute its 
net capital in this manner unless a change is approved upon application 
to

[[Page 23099]]

the Commission. Further, there are special notification requirements 
for broker-dealers that carry the accounts of options market makers to 
identify when the activities of those options market makers may impact 
the financial stability of the carrying broker-dealer.
    There are also certain recordkeeping requirements under Rule 15c3-
1. For example, a broker-dealer must keep a record of who is acting as 
an agent in a securities loan transaction and records with respect to 
obtaining DEA approval prior to withdrawing capital within one year of 
a contribution. These records help the Commission and its staff, as 
well as DEAs, facilitate the monitoring of the financial condition of 
broker-dealers.
    The provision at 17 CFR 240.15c3-1c (appendix C to Rule 15c3-1) 
requires broker-dealers that consolidate their financial statements 
with a subsidiary or affiliate, under certain circumstances, to submit 
to their DEA an opinion of counsel. The opinion of counsel must state, 
among other things, that the broker-dealer may cause that portion of 
the net assets of a subsidiary or affiliate related to its ownership 
interest in the entity to be distributed to the broker-dealer within 30 
calendar days.
5. Rule 15c3-5
    Rule 15c3-5 seeks to ensure that broker-dealers with market access 
appropriately control the risks associated with market access, so as 
not to jeopardize their own financial condition, that of other market 
participants, the integrity of trading on the securities markets, and 
the stability of the financial system.\303\
---------------------------------------------------------------------------

    \303\ See 17 CFR 240.15c3-5(a)(1).
---------------------------------------------------------------------------

6. Rule 17a-3
    The purpose of requiring broker-dealers to create the records 
specified in Rule 17a-3 is to enhance regulators' ability to protect 
investors. These records and the information contained therein will be 
and are used by examiners and other representatives of the Commission, 
State securities regulatory authorities, and the self-regulatory 
organizations (e.g., FINRA, CBOE, etc.) (``SROs'') to determine whether 
broker-dealers are in compliance with the Commission's antifraud and 
anti-manipulation rules, financial responsibility program, and other 
Commission, SRO, and State laws, rules, and regulations. If broker-
dealers were not required to create these records, Commission, SRO, and 
state examiners would be unable to conduct effective and efficient 
examinations to determine whether broker-dealers were complying with 
relevant laws, rules, and regulations.
7. Rule 17a-4
    The purpose of requiring broker-dealers to maintain the records 
specified in Rule 17a-4 is to help ensure that examiners and other 
representatives of the Commission, State securities regulatory 
authorities, and SROs have access to the information and documents 
necessary to determine whether broker-dealers are in compliance with 
the Commission's antifraud and anti-manipulation rules, financial 
responsibility program, and other Commission, SRO, and State laws, 
rules, and regulations. Without Rule 17a-4, it would be impossible for 
the Commission to determine whether a dealer that chose not to preserve 
records was in compliance with these rules. Such a situation would not 
be in the public interest and would be detrimental to investors and the 
financial community as a whole.
8. Rule 17a-5
    Reports required to be made under Rule 17a-5 are used, among other 
things, to monitor the financial and operational condition of a broker-
dealer by Commission staff and by the dealer's DEA. The reports 
required under Rule 17a-5 are one of the primary means of ensuring 
compliance with the financial responsibility rules. A firm's failure to 
comply with these rules would severely impair the ability of the 
Commission and the firm's DEA to protect customers. The reported data 
is used in preparation for broker-dealer examinations and inspections. 
The completed forms also are used to determine which firms are engaged 
in various securities-related activities, the extent to which they are 
engaged in those activities, and how economic events and government 
policies might affect various segments of the securities industry.
9. Rule 17a-11
    The information obtained under Rule 17a-11 is used to monitor the 
financial and operational condition of a broker-dealer by the 
Commission staff, by the broker-dealer's DEA and, if applicable, by the 
Commodity Futures Trading Commission (``CFTC''). This information 
alerts the Commission, the DEA, and the CFTC of the need to increase 
surveillance of the broker-dealer's financial and operational condition 
and to assist the broker-dealer to comply with the Commission's rules. 
No similar information is already available to use or modify for 
purposes of complying with Rule 17a-11 because the disclosures required 
by the rule are unobtainable until the early warning mechanisms are 
triggered. Only the most up-to-date information will help the 
Commission, DEAs, and the CFTC to monitor broker-dealers experiencing 
financial or operational difficulties.
10. Rule 613
    Rule 613 creates a comprehensive CAT that allows regulators to 
efficiently and accurately track all activity throughout the U.S. 
markets in certain securities.\304\ The rule specifies the type of data 
to be collected and when the data is to be reported to a central 
repository. The information collected and reported to the central 
repository improves the quality of the data available to regulators and 
could be used by regulators to monitor and surveil the securities 
markets and detect and investigate activity, whether on one market or 
across markets. The data collected and reported to the central 
repository could also be used by regulators for the evaluation of tips 
and complaints and for complex enforcement inquiries or investigations, 
as well as inspections and examinations. Further, regulators could use 
the data collected and reported to conduct more timely and accurate 
analysis of market activity for reconstruction of broad-based market 
events in support of regulatory decisions.
---------------------------------------------------------------------------

    \304\ See 17 CFR 242.613.
---------------------------------------------------------------------------

C. Respondents

    As discussed above, proposed Rules 3a5-4 and 3a44-2 would further 
define activities that would cause a person engaged in the regular 
business of buying and selling securities for its own account within 
the meaning of the Exchange Act. A person who satisfies any one of the 
factors set forth in either of the Proposed Rules would be a dealer or 
government securities dealer and so required to register, absent an 
exception or exemption.
1. Dealers
    The qualitative factors identified in proposed Rule 3a5-4 would 
further define dealer activity. The Commission estimates that for 
proposed Rule 3a5-4 the total number of respondents that would register 
as a dealer would be approximately 51 persons.\305\ The

[[Page 23100]]

Commission estimates that respondents will be subject to some or all of 
the following collections of information as estimated below.
---------------------------------------------------------------------------

    \305\ This estimate is based on the analysis described in 
Section V.B.2. As identified in Table 4, the analysis indicates that 
between 41 and 61 CAT FDID institutional customer accounts 
(depending on the thresholds used) had both low buy-sell dollar 
volume imbalance in SPY and above de minimis total dollar volume in 
SPY in at least 14 of 21 trading days in October 2021. See Section 
V.B.2. Although there is currently no simple one-to-one 
correspondence between the number of CAT FDID customer accounts that 
satisfy various thresholds in Table 4 and the number of unregistered 
market participants in the market (e.g., some unregistered market 
participants may have several CAT FDID accounts, and some CAT FDID 
accounts may represent more than one customer), the Commission 
believes that the analysis in Table 4 provides a useful indication 
about the scope of a potential impact of proposed Rule 3a5-4 and has 
used the median of the results at Table 4 to determine the number of 
approximate market participants that would register as a dealer as a 
result of proposed Rule 3a5-4. Additionally, the Commission 
recognizes that some of the 41 to 61 CAT FDID institutional customer 
accounts may be held by registered investment companies that are 
excluded from the Proposed Rules.
---------------------------------------------------------------------------

2. Government Securities Dealers
    The Commission estimates that, as a result, for proposed Rule 3a44-
2 the total number of respondents that would register as a government 
securities dealer with the Commission would be approximately 46 persons 
\306\ and that some of the respondents may elect to register as a 
dealer under Section 15(a), rather than as a government securities 
dealer under Section 15C.\307\ The Commission estimates that 
respondents will be subject to some or all of the following collections 
of information as estimated below.
---------------------------------------------------------------------------

    \306\ This estimate is based on the analysis descried in Section 
V.B.2. That analysis found that 46 non-FINRA member firms would 
likely meet the proposed quantitative standard. The Commission 
recognizes that some of these firms may be exempted from 
registration (e.g., banks) or affiliated with other entities that 
are registered dealers, in which case a parent entity could avoid 
the costs of registration by shifting the activities covered by the 
Proposed Rules to the registered dealer affiliate.
    \307\ See Section VI.D.1. Respondents that register with the 
Commission as a dealer or government securities dealer file a Form 
BD. Respondents that are government securities dealer are subject to 
the rules governing government securities dealers promulgated by the 
U.S. Treasury at 17 CFR parts 400 through 499. See 15 U.S.C. 78o-
5(b); see also 17 CFR parts 400 through 499. The Treasury Rules, for 
the most part, incorporate with some modifications the Commission's 
rules for government securities dealers that are not financial 
institutions. See supra note 81.
---------------------------------------------------------------------------

D. Total PRA Burdens

1. Burden of Rules 15b1-1, 15Ca-1, 15Ca2-1, and 15b3-1 and Form BD
    As discussed above, Section 15C of the Exchange Act requires 
government securities dealers to register with the Commission.\308\ A 
government securities dealer has the flexibility to either register as 
a dealer pursuant to Rule 15b1-1 and file notice as a government 
securities dealer under Rule 15Ca-1, or register as a government 
securities dealer under Rule 15Ca2-1.\309\ In either case, the 
respondent is required to complete a Form BD.\310\ The Commission 
believes that Proposed Rules would impose the same burden to the 
respondents irrespective of whether the respondent registers as a 
dealer or a government securities dealer. Once registered, a broker-
dealer must file an amended Form BD when information it originally 
reported on Form BD changes or becomes inaccurate.\311\ The Commission 
estimates an initial burden of 2.75 hours \312\ for completing a Form 
BD and an annual burden of .95 hour \313\ per respondent for amending 
Form BD, resulting in a total initial burden of 266.75 hours \314\ and 
a total annual burden of 76.95 hours.\315\
---------------------------------------------------------------------------

    \308\ See 15 U.S.C. 78o-5(a).
    \309\ Compare 15 U.S.C. 78o(a) with 15 U.S.C. 78o-5(a). A 
government securities dealer that registers under Section 
15C(a)(l)(A) will be limited to conducting a government securities 
business only.
    \310\ Compare 17 CFR 240.15b1-1(a) (``An application for 
registration of a broker or dealer that is filed pursuant to section 
15(b) of the Act (15 U.S.C. 78o(b)) shall be filed on Form BD 
(249.501 of this chapter) in accordance with the instructions to the 
form'') and 17 CFR 240.15Ca1-1(a) (``Every government securities 
broker or government securities dealer that is a broker or dealer 
registered pursuant to section 15 or 15B of the Act (other than a 
financial institution as defined in section 3(a)(46) of the Act) 
shall file with the Commission written notice on Form BD (249.501 of 
this chapter) in accordance with the instructions contained therein 
that it is a government securities broker or government securities 
dealer.'') with 17 CFR 240.15Ca2-1(a) (``An application for 
registration pursuant to Section 15C(a)(1)(A) of the Act, of a 
government securities broker or government securities dealer that is 
filed on or after January 25, 1993, shall be filed with the Central 
Registration Depository (operated by the Financial Industry 
Regulatory Authority, Inc.) on Form BD in accordance with the 
instructions contained therein.'').
    \311\ See 17 CFR 240.15b3-1.
    \312\ See Extension Without Change of a Currently Approved 
Collection: Form BD and Rule 15b1-1; Application for Registration as 
a Broker-Dealer; ICR Reference No. 201905-3235-016; OMB Control No. 
3235-0012 (Aug. 7, 2019), available at https://www.reginfo.gov/public/do/PRAViewDocument?ref_nbr=201905-3235-016 (``Form BD PRA 
Supporting Statement'').
    \313\ The Commission's currently approved burden for the average 
ongoing compliance burden for each respondent amending Form BD is 
.95 hours (Compliance Manager at 0.33 hours x 2.87 amendments per 
year). See Form BD PRA Supporting Statement at 5.
    \314\ 97 respondents multiplied by 2.75 hours per respondent.
    \315\ 97 respondents multiplied by .95 hours per respondent.
---------------------------------------------------------------------------

    In addition, the Commission believes that a respondent's compliance 
manager would complete and file the application and amendments on Form 
BD at $314/hour.\316\ Consequently, the Commission estimates that the 
internal cost of compliance associated with these burden hours for the 
respondents is approximately an initial burden of $83,759.50 \317\ and 
an annual burden of $28,935.10.\318\ It is not anticipated that 
respondents will have to incur any capital and start-up costs, nor any 
additional operational or maintenance costs, to comply with the 
collection of information.\319\
---------------------------------------------------------------------------

    \316\ Form BD PRA Supporting Statement at 5.
    \317\ 97 respondents multiplied by (2.75 initial hours per 
respondent multiplied by $314 per hour).
    \318\ 97 respondents multiplied by (.95 annual hours per 
respondent multiplied by $314 per hour).
    \319\ Form BD PRA Supporting Statement at 6.
---------------------------------------------------------------------------

2. Burden of Rules 15b6-1 and 15Cc-1 and Form BDW
    The time necessary to complete and file Form BDW will vary 
depending on the nature and complexity of the applicant's securities 
business. On average, the Commission estimates that it would take a 
broker-dealer approximately one hour \320\ per respondent to complete 
and file a Form BDW to withdraw from Commission registration. The 
Commission estimates that at least one of the 97 respondents will 
withdraw as a dealer, resulting in a total annual burden of one 
hour.\321\ The Commission believes that a respondent would have a 
compliance officer, at $536 per hour, complete and file the Form BDW to 
withdraw from Commission registration.\322\ Accordingly, the Commission 
estimates an internal compliance cost associated with the burden hours 
for the respondents is approximately $536.\323\ It is not anticipated 
that respondents will have to incur any capital and start-up costs, nor 
any additional operational or maintenance costs, to comply with the 
collection of information.\324\
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    \320\ See Extension Without Change of a Currently Approved 
Collection: Rule 15b6-1 and Form BDW; ICR Reference No: 202005-3235-
003; OMB Control No: 3235-0018 (May 5, 2020), available at https://www.reginfo.gov/public/do/PRAViewDocument?ref_nbr=202005-3235-003 
(``Form BDW Supporting Statement'').
    \321\ One respondent multiplied by 1 hour per respondent.
    \322\ Form BDW Supporting Statement at 5.
    \323\ One respondent multiplied by (1 hour per respondent 
multiplied by $536 per hour).
    \324\ Form BDW Supporting Statement at 5.
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3. Burden of Rule 15c2-7
    Any broker-dealer could be a potential respondent for Rule 15c2-7. 
Only quotations entered into an inter-dealer quotation system such as 
OTC Link, OTC Bulletin Board (OTCBB), and Global OTC, are covered by 
Rule 15c2-7. According to representatives of OTC Link, Global OTC, and 
the OTCBB, none of those entities has recently received, nor 
anticipates receiving, any Rule 15c2-7 notices.\325\ However, because

[[Page 23101]]

such notices could be made, the Commission estimates that one filing, 
in the aggregate, by only one broker-dealer, is made annually pursuant 
to Rule 15c2-7.\326\ Based on prior industry estimates, the time 
required to enter a notice pursuant to Rule 15c2-7 is 45 seconds, or 
.75 minutes.\327\ The Commission believes that there will not be any 
respondents that are required to register as a result of the Proposed 
Rules that must file a Rule 15c2-7 notice as a result of the Proposed 
Rules. Accordingly, the Commission estimates that there will be no 
internal compliance cost associated with the burden hours for Rule 
15c2-7.
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    \325\ See Extension without change of a currently approved 
collection: Rule 15c2-7, Identification of Quotations (17 CFR 
240.15c2-7); ICR Reference No: 202008-3235-005; OMB Control No: 
3235-0479 (Sep. 16, 2020), available at https://www.reginfo.gov/public/do/PRAViewDocument?ref_nbr=202008-3235-005 (``Rule 15c2-7 PRA 
Supporting Statement'').
    \326\ Rule 15c2-7 PRA Supporting Statement at 3.
    \327\ Id.
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4. Burden of Rule 15c3-1
    Some of the respondents that would register with the Commission as 
a result of the Proposed Rules would likely incur a collection of 
information burden to comply with Rule 15c3-1. The Commission estimates 
the hour burdens of the requirements associated with Rule 15c3-1 as 
follows.
    Notices: Based on the number of notices filed under Rule 15c3-1 in 
2019, the Commission estimates that broker-dealers annually file 
approximately 844 notices under Rule 15c3-1 and that a broker-dealer 
will spend approximately 30 minutes preparing and filing these 
notices.\328\ The Commission estimates that at least approximately 23 
of the 97 respondents would likely each file one notice under Rule 
15c3-1, for a total of 23 notices.\329\ Accordingly the Commission 
estimates a total additional annual burden of approximately 11.5 
hours.\330\
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    \328\ Extension Without Change of a Currently Approved 
Collection: Rule 15c3-1: Net Capital Requirements for Brokers and 
Dealers; ICR Reference No: 201912-3235-005; OMB Control No: 3235-
0200 (Jan. 16, 2020), available at https://www.reginfo.gov/public/do/PRAViewDocument?ref_nbr=201912-3235-005 (``Rule 15c3-1 PRA 
Supporting Statement'').
    \329\ The Commission estimated that as of June 2019 broker-
dealers submitted approximately 844 notices annually. Rule 15c3-1 
PRA Supporting Statement at 4. The number of active broker-dealers 
on June 30, 2019 was 3,710. Thus, approximately 23 percent of the 
active broker-dealers submitted a notice annually as of June 2019. 
Based on this, the Commission estimates that the 97 respondents that 
would need to register with the Commission under the Proposed Rules 
would file approximately 23 notices annually.
    \330\ 23 respondents multiplied by .5 hours per respondent.
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    Capital Withdrawal Liability: Paragraph (c)(2)(i)(G)(2) of Rule 
15c3-1 requires that a broker-dealer treat as a liability any capital 
contribution that is intended to be withdrawn within one year of its 
contribution. The amendment also includes the presumption that capital 
withdrawn within one year of contribution is presumed to have been 
intended to be withdrawn within one year, unless the broker-dealer 
receives permission in writing for the withdrawal from its DEA. The 
Commission estimates it will take a broker-dealer approximately one 
hour to prepare and submit the request to its DEA to withdraw 
capital,\331\ and that at least approximately two respondents would 
likely seek permission in writing one occasion for the capital 
withdrawal.\332\ Accordingly, the Commission estimates that the total 
annual reporting burden will be approximately two hours.\333\
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    \331\ Rule 15c3-1 PRA Supporting Statement at 5.
    \332\ The Commission estimated that as of June 2019 broker-
dealers submitted approximately 84 notices annually. Rule 15c3-1 PRA 
Supporting Statement at 5. The number of active broker-dealers on 
June 30, 2019 was 3,710. Thus, approximately .02 percent of the 
active broker-dealers submitted a notice annually as of June 2019. 
Based on this, the Commission estimates that the 97 respondents that 
would need to register with the Commission under the Proposed Rules 
would file approximately two notices annually.
    \333\ Two respondents multiplied by 1 hour per respondent.
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    Some broker-dealers that file consolidated financial reports obtain 
an opinion of counsel under appendix C of Rule 15c3-1.\334\ The 
Commission believes that there will not be any respondents that are 
required to register as a result of the Proposed Rules that will obtain 
an opinion of counsel to file the consolidated financial reports as 
required under appendix C of Rule 15c3-1. It is not anticipated that 
respondents will have to incur any capital and start-up costs, nor any 
additional operational or maintenance costs, to comply with the 
collection of information.
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    \334\ Rule 15c3-1 PRA Supporting Statement at 11.
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5. Burden of Rule 15c3-5
    To comply with Rule 15c3-5, a respondent must maintain its risk 
management system by monitoring its effectiveness and updating its 
systems to address any issues detected.\335\ In addition, a respondent 
is required to preserve a copy of its written description of its risk 
management controls as part of its books and records in a manner 
consistent with Rule 17a-4(e)(7) under the Exchange Act.\336\ The 
Commission estimates that the ongoing annualized burden for a 
respondent to maintain its risk management system will be approximately 
115 burden hours.\337\ The Commission estimates the related internal 
compliance cost for this hour burden per respondent at approximately 
$31,717 per year.\338\ The Commission believes the ongoing burden of 
complying with the rule's collection of information will include, among 
other things, updating systems to address any issues detected, updating 
risk management controls to reflect any change in its business model, 
and documenting and preserving a broker-dealer's written description of 
its risk management controls.\339\ In addition, the Commission 
estimates that a broker-dealer's legal and compliance burden of 
complying with Rule 15c3-5 will require approximately 45 hours per 
year.\340\ The Commission estimates the related internal compliance 
cost for this hour burden per respondent at approximately $25,645 per 
year.\341\
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    \335\ See 17 CFR 240.15c3-5.
    \336\ Id.
    \337\ See Extension Without Change of a Currently Approved 
Collection: Rule 15c3-5--Risk Management Controls for Brokers or 
Dealers with Market Access; ICR Reference No: 201907-3235-022; OMB 
Control No: 3235-0673 (July 23, 2019) available at https://www.reginfo.gov/public/do/PRAViewDocument?ref_nbr=201907-3235-022 
(``Rule 15c3-5 Supporting Statement'').
    \338\ Rule 15c3-5 Supporting Statement at 4.
    \339\ Id.
    \340\ Id. at 5. Specifically, compliance attorneys who review, 
document, and update written compliance policies and procedures are 
expected to require an estimated 20 hours per year; a compliance 
manager who reviews, documents, and updates written compliance 
policies and procedures is expected to require 20 hours per year; 
and the Chief Executive Officer, who certifies the policies and 
procedures, is expected to require another 5 hours per year. Id.
    \341\ Id.
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    Accordingly, the Commission estimates the annual aggregate 
information burden per respondent would be 160 hours,\342\ for a total 
annual burden of 15,520 hours.\343\ The Commission estimates the 
related total internal compliance cost for the respondents required to 
register as a result of the Proposed Rules for this hour burden at 
approximately $5,564,114 per year.\344\ In addition, the Commission 
estimates that for hardware and software expenses, the average ongoing 
external cost would be approximately $20,500 per respondent,\345\ for a 
total annualized external cost for all respondents of $1,988,500.\346\
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    \342\ 115 hours for technology + 45 hours for legal and 
compliance.
    \343\ 97 respondents multiplied by 160 hours.
    \344\ 97 respondents multiplied by ($31,717 for technology + 
$25,645 for legal and compliance).
    \345\ Rule 15c3-5 Supporting Statement at 6.
    \346\ 97 respondents multiplied by $20,500 per respondent.
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6. Burden of Rule 17a-3
    As discussed above, the respondents that would register as dealers 
or

[[Page 23102]]

government securities as a result of the Proposed Rules would incur a 
burden of collection of information necessary to comply with Rule 17a-
3. While recordkeeping requirements will vary based on the size and 
complexity of the broker-dealer, the Commission estimates that one hour 
a day \347\ is the average amount of time needed by a broker-dealer to 
comply with the overall requirements of Rule 17a-3, in addition to the 
separate burdens described below. The number of working days per year 
is 249, and as a result the total annual estimated burden for 
respondents with respect to Rule 17a-3 generally is 24,153 hours.\348\
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    \347\ See Revision of a Currently Approved Collection: Rule 17a-
3; Records to be Made by Certain Exchange Members, Brokers and 
Dealers; ICR Reference No: 202107-3235-019; OMB Control No: 3235-
0033 (July 29, 2021), available at https://www.reginfo.gov/public/do/PRAViewDocument?ref_nbr=202107-3235-019 (``Rule 17a-3 PRA 
Supporting Statement'').
    \348\ 97 respondents multiplied by 249 hours per respondent a 
year.
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(i) Rule 17a-3(a)(12) and (19)
    In addition to the hour burden estimate for Rule 17a-3 generally, 
the Commission also believes that paragraphs (a)(12) and (19) of Rule 
17a-3 will impose specific burdens on respondents. Paragraphs (a)(12) 
and (19) of Rule 17a-3 require that a broker-dealer create certain 
records regarding its associated persons.\349\ The Commission estimates 
that each broker-dealer spends, on average, approximately 30 minutes 
each year \350\ to ensure that it is in compliance with these 
requirements, resulting in a total annual compliance burden of 
approximately 48.5 hours for the respondents.\351\
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    \349\ These records that a broker-dealer is required to make 
regarding the broker-dealer's associated persons include: (1) All 
agreements pertaining to the associated person's relationship with 
the broker-dealer and a summary of each associated person's 
compensation arrangement (17 CFR 240.17a-3(a)(19)(ii)), (2) a record 
delineating all identification numbers relating to each associated 
person (17 CFR 240.17a-3(a)(12)(ii)), (3) a record of the office at 
which each associated person regularly conducts business (17 CFR 
240.17a-3(a)(12)(iii)), and (4) a record as to each associated 
person listing transactions for which that person will be 
compensated (17 CFR 240.17a3(a)(19)(i)).
    \350\ Rule 17a-3 PRA Supporting Statement at 6.
    \351\ 97 respondents multiplied by .5 hours per respondent.
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(ii) Rule 17a-3(a)(20) Through (22)
    Paragraphs (a)(20) through (22) of Rule 17a-3 require broker-
dealers to make, among other things, records documenting the broker-
dealer's compliance, or that the broker-dealer has adopted policies and 
procedures reasonably designed to establish compliance, with applicable 
Federal regulations and SRO rules that require approval by a principal 
of the broker-dealer of any advertisements, sales literature or other 
communications with the public.\352\ Moreover, these rules require 
broker-dealers to create a record of the personnel responsible for 
establishing compliance policies and procedures and of the personnel 
capable of explaining the types of records the broker-dealer.\353\ The 
Commission estimates that, on average, each broker-dealer will spend 10 
minutes each year \354\ to ensure compliance with these requirements, 
resulting in a total annual burden for the respondents of about 
approximately 16 hours.\355\
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    \352\ See 17 CFR 240.17a-3(a)(20); 17 CFR 240.17a-3(a)(21); 17 
CFR 240.17a-3(a)(22).
    \353\ Id.
    \354\ Rule 17a-3 PRA Supporting Statement at 6.
    \355\ (97 respondents multiplied by 10 minutes per respondent) 
divided by 60 minutes.
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7. Burden of Rule 17a-4
    The respondents that registered as dealers or government securities 
would incur a collection of information burden to comply with Rule 17a-
4. Rule 17a-4 establishes the records that must be preserved by broker-
dealers.\356\ The Commission estimates that, on average, each broker-
dealer spends 254 hours each year \357\ to ensure that it preserves the 
records Rule 17a-4 requires all broker-dealers to preserve. 
Accordingly, the Commission estimates that there will be a total annual 
burden of 24,638 hours to comply with the Rule 17a-4 requirements 
applicable to the respondents.\358\ The Commission estimates that the 
average broker-dealer spends approximately $5,000 each year to store 
documents required to be retained under Rule 17a-4.\359\ Accordingly, 
the Commission estimates the annual reporting and recordkeeping cost 
burden for the respondents to be $485,000.\360\
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    \356\ See 17 CFR 240.17a-4.
    \357\ See Revision of a currently approved collection: Rule 17a-
4; Records to be Preserved by Certain Exchange Members, Brokers and 
Dealers; ICR Reference No: 202107-3235-021; OMB Control No: 3235-
0279 (Sep. 23. 2021), available at https://www.reginfo.gov/public/do/PRAViewDocument?ref_nbr=202107-3235-021 (``Rule 17a-4 Supporting 
Statement'').
    \358\ 97 respondents multiplied by 254 hours per respondent.
    \359\ Rule 17a-4 Supporting Statement at 13. Costs include the 
cost of physical space, computer hardware. and software, etc., which 
vary widely depending on the size of the broker-dealer and the type 
of storage media employed. Id.
    \360\ 97 respondents multiplied by $5,000 per respondent.
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8. Burden of Rule 17a-5 \361\
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    \361\ Registered government securities dealers are required to 
comply with Rule 17a-11, subject to the enumerated modifications in 
17 U.S.C. 405.3. See 17 U.S.C. 405.3.
---------------------------------------------------------------------------

    This section summarizes the burdens associated with Rule 17a-5.
    FOCUS Report for Broker-Dealers that do not Clear Transactions or 
Carry Customer Accounts: Rule 17a-5(a)(2)(iii) requires that broker-
dealers that do not clear transactions or carry customer accounts and 
do not use ANC models to calculate net capital are required to file 
FOCUS Report Part IIA on a quarterly basis.\362\ The Commission 
believes that the 97 respondents that would be required to register 
with the Commission would need to comply with this provision of Rule 
17a-5. The Commission estimates that each FOCUS Report Part IIA takes 
approximately 12 hours to prepare and file.\363\ As a result, each 
respondent is estimated to have an annual reporting burden of 48 
hours,\364\ resulting in an annual burden of 4,656 hours.\365\
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    \362\ See 17 CFR 240.17a-5(a)(2)(iii).
    \363\ See Revision of a Currently Approved Collection: Rule 17a-
5, Form X-17A-5 (FOCUS REPORT); ICR Reference No: 202107-3235-022; 
OMB Control No: 3235-0123 (July 29, 2021), available at https://www.reginfo.gov/public/do/PRAViewDocument?ref_nbr=202107-3235-022 
(``Rule 17a-5 PRA Supporting Statement'').
    \364\ Rule 17a-5 PRA Supporting Statement at 6.
    \365\ 97 respondents multiplied by 48 hours per respondent.
---------------------------------------------------------------------------

    Annual Reports: Rule 17a-5(d)(1)(i)(A) requires broker-dealers, 
subject to limited exception, to file annual reports, including 
financial statements and supporting schedules that generally must be 
audited by a PCAOB-registered independent public accountant in 
accordance with PCAOB standards. The Commission believes that the 97 
respondents that would be required to register with the Commission 
would be need to file an annual report. The Commission estimates that 
each respondent is estimated to have an annual reporting burden of 12 
hours under Rule 17a-5(d),\366\ resulting in an annual burden of 1,164 
hours for the respondents.\367\
---------------------------------------------------------------------------

    \366\ Rule 17a-5 PRA Supporting Statement at 7.
    \367\ 97 respondents multiplied by 12 hours per respondent.
---------------------------------------------------------------------------

    Exemption Report: Rule 17a-5(d)(1)(i)(B) requires a broker-dealer 
that claims it was exempt from 17 CFR 240.15c3-3 (Rule 15c3-3) 
throughout the most recent fiscal year must file an exemption report 
with the Commission on an annual basis.\368\ As of December 31, 2019, 
3,689 broker-dealers filed FOCUS Reports with the Commission and, of 
these, 3,001 broker-dealers

[[Page 23103]]

claimed exemptions from Rule 15c3-3.\369\ The Commission estimates that 
it takes a broker-dealer claiming an exemption from Rule 15c3-3 
approximately 7 hours to complete the exemption report.\370\ The 
Commission also estimates that approximately 78 of the 97 respondents 
\371\ would also claim exemptions from Rule 15c3-3 and be required to 
file an exemption report, resulting in an annual burden of 546 
hours.\372\
---------------------------------------------------------------------------

    \368\ See 17 CFR 240.17a-5(d)(1)(i)(B).
    \369\ Rule 17a-5 PRA Supporting Statement at 8.
    \370\ Id.
    \371\ The Commission believes that the same percentage of 
broker-dealers that claimed exemptions from Rule 15c3-3 as of 
December 31, 2019 applies to the 97 respondents that would register 
with the Commission as a result of the Proposed Rules. Accordingly, 
the Commission estimates that 80 percent of the 97 respondents would 
file an exemption report under Rule 17a-5(d)(1)(i)(A).
    \372\ 78 respondents multiplied by 7 hours per respondent.
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    SIPC Annual Reports: Paragraph (d)(6) of Rule 17a-5 requires a 
Securities Investor Protection Corporation (``SIPC'') member broker-
dealers to file a copy of the annual reports with SIPC.\373\ The 
Commission estimates that it takes a broker-dealer approximately 30 
minutes to file the annual reports with SIPC.\374\ As a result, each 
firm is estimated to have an annual burden of .5 hour, resulting in an 
annual burden of 48.5 hours for the respondents.\375\
---------------------------------------------------------------------------

    \373\ See 17 CFR 240.17a-5(d)(6).
    \374\ Rule 17a-5 PRA Supporting Statement at 8.
    \375\ 97 respondents multiplied by .5 hour per respondent.
---------------------------------------------------------------------------

    SIPC Annual General Assessment Reconciliation Report or Exclusion 
from Membership Forms: Paragraph (e)(4) of Rule 17a-5 requires broker-
dealers to file with SIPC a report on the SIPC annual general 
assessment reconciliation or exclusion from membership forms.\376\ The 
Commission estimates that it takes a broker-dealer approximately 5 
hours to file SIPC's annual assessment reconciliation form or 
certification of exclusion from membership forms,\377\ resulting in an 
estimated annual burden of about 485 hours for the respondents.\378\
---------------------------------------------------------------------------

    \376\ See 17 CFR 240.17a-5(e)(4).
    \377\ Rule 17a-5 PRA Supporting Statement at 9.
    \378\ 97 respondents multiplied by 5 hours per respondent.
---------------------------------------------------------------------------

    Statement Regarding Independent Public Accountant: Paragraph (f)(2) 
of Rule 17a-5 requires broker-dealers to prepare a statement providing 
information regarding the broker-dealer's independent public accountant 
and to file it each year with the Commission and its DEA (except that 
if the engagement is of a continuing nature, no further filing is 
required).\379\ The Commission estimates that it takes a broker-dealer 
that neither carries customer accounts nor clears transactions 
approximately 2 hours to file the Statement Regarding Independent 
Public Accountant with the Commission.\380\ As a result, each broker-
dealer that neither carries nor clears transactions is estimated to 
have an annual burden of 2 hours, resulting in an annual burden of 194 
hours for the respondents.\381\
---------------------------------------------------------------------------

    \379\ 17 CFR 240.17a-5(f)(2).
    \380\ Rule 17a-5 PRA Supporting Statement at 9.
    \381\ 97 respondents multiplied by 2 hours per respondent.
---------------------------------------------------------------------------

    The Commission estimates that Rule 17a-5 causes a broker-dealer to 
incur an annual dollar cost to meet its reporting obligations. Those 
requirements that are anticipated to impose an annual cost are 
discussed below.
    Annual Reports: The Commission estimates that postage costs to 
comply with paragraph (d) of Rule 17a-5 impose on broker-dealers an 
annual dollar cost of $7.75 per firm,\382\ resulting in a total annual 
cost for the respondents of approximately $751.75.\383\
---------------------------------------------------------------------------

    \382\ Rule 17a-5 PRA Supporting Statement at 15.
    \383\ 97 respondents multiplied by $7.75 per respondent.
---------------------------------------------------------------------------

    Exemption Report: A broker-dealer that claims it was exempt from 
Rule 15c3-3 throughout the most recent fiscal year must file an 
exemption report with the Commission on an annual basis.\384\ The cost 
associated with an independent public accountant's review of the 
exemption report is estimated to create an ongoing cost of $3,000 per 
non-carrying broker-dealer per year,\385\ for a total annual reporting 
cost of approximately $234,000.\386\
---------------------------------------------------------------------------

    \384\ See 17 CFR 240.17a-5(d)(1)(i)(B).
    \385\ Rule 17a-5 PRA Supporting Statement at 16.
    \386\ 78 respondents multiplied by $3,000 per respondent. As 
discussed above, the Commission also estimates that approximately 78 
of the 97 respondents would also claim exemptions from Rule 15c3-3.
---------------------------------------------------------------------------

    SIPC Annual Reports: The Commission estimates that postage costs to 
comply with paragraph (d)(6) of Rule 17a-5 impose an annual dollar cost 
of 50 cents per firm registered with SIPC as a SIPC member broker-
dealer,\387\ totaling for the 97 respondents an estimated cost burden 
for the response of $48.50.\388\
---------------------------------------------------------------------------

    \387\ Rule 17a-5 PRA Supporting Statement at 16.
    \388\ 97 respondents multiplied by $0.50 per respondent.
---------------------------------------------------------------------------

    SIPC Annual General Assessment Reconciliation Report or Exclusion 
from Membership Forms: The Commission estimates that postage costs to 
comply with paragraph (e)(4) of Rule 17a-5, impose an annual dollar 
cost of 50 cents per firm.\389\ The Commission estimates that each year 
the 97 respondents will file with SIPC a report on the SIPC annual 
general assessment reconciliation or exclusion from membership forms, 
such that the estimated cost burden totals $48.50 per year.\390\
---------------------------------------------------------------------------

    \389\ Rule 17a-5 PRA Supporting Statement at 16.
    \390\ 97 respondents multiplied by $0.50 per respondent.
---------------------------------------------------------------------------

    Statement Regarding Independent Public Accountant: The Commission 
estimates that postage costs to comply with paragraphs (f)(2) and (3) 
of Rule 17a-5, impose an annual dollar cost of 50 cents per firm.\391\ 
Accordingly, the Commission estimates a total cost of $48.50 per year 
for the 97 respondents.\392\
---------------------------------------------------------------------------

    \391\ Rule 17a-5 PRA Supporting Statement at 17.
    \392\ 97 respondents multiplied by $0.50 per respondent.
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9. Burden of Rule 17a-11
    In 2019, the Commission received 343 Rule 17a-11 notices from 
broker-dealers.\393\ The Commission previously estimated that it would 
receive a similar number of notices from broker-dealers each year over 
the next three years and that it will take approximately one hour to 
prepare and transmit each notice.\394\ The Commission believes that the 
Proposed Rules would not cause any change to the Commission's estimated 
number of 17a-11 notices received from broker-dealers.
---------------------------------------------------------------------------

    \393\ Revision of a Currently Approved Collection: Rule 17a-11 
(17 CFR 240.17a-11) Notification provisions for Brokers and Dealers; 
ICR Reference No: 202107-3235-023; OMB Control No: 3235-0085 (Sep. 
14, 2021), available at https://www.reginfo.gov/public/do/PRAViewDocument?ref_nbr=202107-3235-023 (``17a-11 PRA Supporting 
Statement'').
    \394\ 17a-11 PRA Supporting Statement at 4.
---------------------------------------------------------------------------

10. Burden of Rule 613
    Rule 613(c) provides that certain requirements are placed upon 
broker-dealers to record and report CAT information to the central 
repository in accordance with specified timelines.\395\ The Commission 
recognizes that broker-dealers may insource or outsource CAT data 
reporting obligations.\396\ The Commission believes all 97 respondents 
would likely have reporting obligations under Rule 613 and 
strategically decide to insource their data reporting functions as a 
result of their high level

[[Page 23104]]

of trading activity.\397\ The Commission estimates that the average 
initial burden associated with implementing regulatory data reporting 
to capture the required information and transmit it to the central 
repository in compliance with Rule 613 for each respondent to be 
approximately 14,490 initial burden hours,\398\ totaling an initial 
burden of 1,405,530 hours for the respondents.\399\ After a respondent 
establishes the appropriate systems and processes required for 
collection and transmission of the required information, the Commission 
estimates that Rule 613 imposes ongoing annual burdens associated with, 
among other things, personnel time to monitor each respondent's 
reporting of the required data and the maintenance of the systems to 
report the required data; and implementing changes to trading systems 
that might result in additional reports.\400\ The Commission believes 
that it would take each respondent approximately 13,338 burden hours 
per year \401\ to continue to comply with Rule 613, totaling an annual 
ongoing burden of 1,293,786 hours for the respondents.\402\
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    \395\ 17 CFR 242.613(c).
    \396\ Revision of a currently approved collection: Consolidated 
Audit Trail NMS Plan (NMS Plan Required to be Filed under Commission 
Rule 613); ICR Reference No: 201911-3235-003; OMB Control No: 3235-
0671 (Apr. 1, 2020), available at https://www.reginfo.gov/public/do/PRAViewDocument?ref_nbr=201911-3235-003 (``CAT Supporting 
Statement'').
    \397\ See CAT Supporting Statement at 37.
    \398\ Id. at 39.
    \399\ 97 respondents multiplied by 14,490 hours.
    \400\ See CAT Supporting Statement at 39-40.
    \401\ Id. at 40.
    \402\ 97 respondents multiplied by 13,338 hours.
---------------------------------------------------------------------------

    Additionally, the Commission estimates that each respondent, on 
average, incurs approximately $450,000 in initial costs for hardware 
and software to implement the systems changes needed to capture the 
required information and transmit it to the central repository, an 
additional $9,500 in initial third party costs, and an additional 
$250,000 in costs to implement the modified allocation timestamp 
requirement,\403\ totaling an initial cost of $68,821,500 for the 
respondents.\404\ After each respondent has established the appropriate 
systems and processes, the Commission believes that Rule 613 imposes 
ongoing annual burdens associated with, among other things, personnel 
time to monitor each respondent's reporting of the required data and 
the maintenance of the systems to report the required data; and 
implementing changes to trading systems that might result in additional 
reports to the central repository.\405\ The Commission estimates costs 
for each respondent, on average, of approximately $80,000 per year to 
maintain systems connectivity to the central repository and purchase 
any necessary hardware, software, and other materials, an additional 
$1,300 per year in third party costs, and an additional $29,166.67 per 
year to maintain the modified allocation timestamp requirement,\406\ 
totaling an estimated annual ongoing cost of $10,715,268 for the 
respondents.\407\
---------------------------------------------------------------------------

    \403\ See CAT Supporting Statement at 63-64.
    \404\ 97 respondents multiplied by (($450,000 in external 
hardware and software costs) + ($250,000 to implement the modified 
allocation timestamp requirement) + ($9,500 initial third party/
outsourcing costs) = $709,500).
    \405\ See CAT Supporting Statement at 66.
    \406\ Id.
    \407\ 97 respondents multiplied by (($80,000 in external 
hardware and software costs) + ($29,166.67 to maintain the modified 
allocation timestamp requirement) + ($1,300 ongoing external third 
party/outsourcing costs) = $110,466.68).
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E. Request for Comments

    Pursuant to 44 U.S.C. 3506(c)(2)(B), the Commission solicits 
comments to:
    79. Evaluate whether the proposed collection of information is 
necessary for the proper performance of the Commission's functions, 
including whether the information shall have practical utility;
    80. Evaluate whether the Commission is adequately capturing the 
number of respondents that would be subject to the burdens under the 
Proposed Rules;
    81. Evaluate the accuracy of the Commission's estimates of the 
burden of the proposed collection of information;
    82. Evaluate the accuracy of the Commission's estimates of the 
costs associated with the proposed collection of information, including 
but not limited to any start-up, technology, personnel, legal services, 
operational, or maintenance costs, to comply with the collection of 
information;
    83. Evaluate whether the Proposed Rules would have any effects on 
any other collection of information not previously identified in this 
section; and
    84. Determine whether any aspects of the Proposed Rules that are 
not discussed in this PRA analysis impact the burden or costs 
associated with the collection of information.
    Persons submitting comments on the collection of information 
requirements should direct them to the Office of Management and Budget, 
Attention: Desk Officer for the Securities and Exchange Commission, 
Office of Information and Regulatory Affairs, Washington, DC 20503, and 
should also send a copy of their comments to Vanessa Countryman, 
Secretary, Securities and Exchange Commission, 100 F Street NE, 
Washington, DC 20549-1090, with reference to File Number S7-12-22. 
Requests for materials submitted to OMB by the Commission with regard 
to this collection of information should be in writing, with reference 
to File Number S7-12-22 and be submitted to the Securities and Exchange 
Commission, Office of FOIA/PA Services, 100 F Street NE, Washington, DC 
20549-2736. As OMB is required to make a decision concerning the 
collection of information between 30 and 60 days after publication, a 
comment to OMB is best assured of having its full effect if OMB 
receives it within 30 days of publication.

VII. Regulatory Flexibility Certification

    The Regulatory Flexibility Act (``RFA'') requires Federal agencies, 
in promulgating rules, to consider the impact of those rules on small 
entities. Section 603(a) of the Administrative Procedure Act,\408\ as 
amended by the RFA, generally requires the Commission to undertake a 
regulatory flexibility analysis of all proposed rules, or proposed rule 
amendments, to determine the impact of the rulemaking on ``small 
entities.'' \409\ Section 605(b) of the RFA \410\ states that this 
requirement shall not apply to any proposed rule or proposed rule 
amendment which, if adopted, would not have a significant economic 
impact on a substantial number of small entities.\411\
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    \408\ 5 U.S.C. 603(a).
    \409\ Although Section 601(b) of the RFA defines the term 
``small entity,'' the statute permits agencies to formulate their 
own definitions. The Commission has adopted definitions for the term 
``small entity'' for the purposes of Commission rulemaking in 
accordance with the RFA. Those definitions, as relevant to this 
proposed rulemaking, are set forth in 17 CFR 240.0-10 (Rule 0-10 
under the Exchange Act). See also Exchange Act Release No. 18451 
(Jan. 28, 1982), 47 FR 5215 (Feb. 4, 1982) (File No. AS-305).
    \410\ 5 U.S.C. 605(b).
    \411\ 5 U.S.C. 605(b).
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    The RFA defines ``small entity'' to mean ``small business,'' 
``small organization,'' or ``small governmental jurisdiction.'' \412\ 
The Commission's rules define ``small business'' and ``small 
organization'' for purpose of the RFA for each of the types of entities 
regulated by the Commission.\413\ A ``small business'' and ``small 
organization,'' when used in reference to a person other than an 
investment company, generally means a person with total assets of $5 
million or less on the last day of its most recent fiscal year.\414\
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    \412\ 5 U.S.C. 601(6).
    \413\ Exchange Act Rule 0-10 (17 CFR 240.0-10) contains 
applicable definitions.
    \414\ Id.
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    The Proposed Rules would not apply to persons that have or control 
total assets of less than $50 million.\415\

[[Page 23105]]

Therefore, because small businesses and small organizations with total 
assets of $5 million or less would not meet the requirements of the 
Proposed Rules, the Commission believes the Proposed Rules would not, 
if adopted, have a significant economic impact on a substantial number 
of small entities.
---------------------------------------------------------------------------

    \415\ See proposed Rule 3a5-4(a)(2)(i) and proposed Rule 3a44-
2(a)(3)(i). See also Section V.B.2.c.
---------------------------------------------------------------------------

    For the foregoing reasons, the Commission certifies, pursuant to 5 
U.S.C. 605(b), that the Proposed Rules, if adopted, would not have a 
significant economic impact on a substantial number of small entities 
for purposes of the RFA. The Commission encourages written comments 
regarding this certification. Specifically, the Commission solicits 
comment as to whether the proposed Rules 3a5-4 and 3a44-2 could have an 
effect on small entities that has not been considered. We request that 
commenters describe the nature of any impact on small entities and 
provide empirical data to support the extent of such impact. These 
comments will be considered in the preparation of the Final Regulatory 
Flexibility Certification, if the Proposed Rules are adopted, and will 
be placed in the same public file as comments on the Proposed Rules. 
Persons wishing to submit written comments should refer to the 
instructions for submitting comments in the front of this release.

VIII. Consideration of Impact on the Economy

    For purposes of the Small Business Regulatory Enforcement Fairness 
Act of 1996,\416\ the Commission requests comment on the potential 
effect of the Proposed Rules on the United States economy on an annual 
basis. The Commission also requests comment on any potential increases 
in costs or prices for consumers or individual industries, and any 
potential effect on competition, investment, or innovation.
---------------------------------------------------------------------------

    \416\ 5 U.S.C. 603.
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Statutory Basis and Text of the Proposed Rules

    The Commission is proposing Rules 3a5-4 and 3a44-2 pursuant to 
authority set forth in Sections 3 and 23 of the Exchange Act (15 U.S.C. 
78c and 78w).

Text of Proposed Rule

List of Subjects in 17 CFR Part 240

    Government securities dealers, Securities dealers.

    For the reasons set out in the preamble, the Commission proposes to 
amend title 17, chapter II, of the Code of Federal Regulations as 
follows:

PART 240--GENERAL RULES AND REGULATIONS, SECURITIES EXCHANGE ACT OF 
1934

0
1. The authority citation for part 240 continues to read, in part, as 
follows:

    Authority:  15 U.S.C. 77c, 77d, 77g, 77j, 77s, 77z-2, 77z-3, 
77eee, 77ggg, 77nnn, 77sss, 77ttt, 78c, 78c-3, 78c-5, 78d, 78e, 78f, 
78g, 78i, 78j, 78j-1, 78k, 78k-1, 78l, 78m, 78n, 78n-1, 78o, 78o-4, 
78o-10, 78p, 78q, 78q-1, 78s, 78u-5, 78w, 78x, 78dd, 78ll, 78mm, 
80a-20, 80a-23, 80a-29, 80a-37, 80b-3, 80b-4, 80b-11, and 7201 et 
seq., and 8302; 7 U.S.C. 2(c)(2)(E); 12 U.S.C. 5221(e)(3); 18 U.S.C. 
1350; Pub. L. 111-203, 939A, 124 Stat. 1376 (2010); and Pub. L. 112-
106, sec. 503 and 602, 126 Stat. 326 (2012), unless otherwise noted.
* * * * *
0
2. Add Sec.  240.3a5-4 to read as follows:

Sec.  240.3a5-4   Further definition of ``as a part of a regular 
business''.

    (a) A person that is engaged in buying and selling securities for 
its own account is engaged in such activity ``as a part of a regular 
business'' as the phrase is used in Section 3(a)(5)(B) (15 U.S.C. 
78c(a)(5)(B)) of the Act if that person:
    (1) Engages in a routine pattern of buying and selling securities 
that has the effect of providing liquidity to other market participants 
by:
    (i) Routinely making roughly comparable purchases and sales of the 
same or substantially similar securities in a day; or
    (ii) Routinely expressing trading interests that are at or near the 
best available prices on both sides of the market and that are 
communicated and represented in a way that makes them accessible to 
other market participants; or
    (iii) Earning revenue primarily from capturing bid-ask spreads, by 
buying at the bid and selling at the offer, or from capturing any 
incentives offered by trading venues to liquidity-supplying trading 
interests; and
    (2) Is not:
    (i) A person that has or controls total assets of less than $50 
million; or
    (ii) An investment company registered under the Investment Company 
Act of 1940.
    (b) For purposes of this section:
    (1) The term ``person'' has the same meaning as prescribed in 
Section 3(a)(9) (15 U.S.C. 78c(a)(9)) of the Act.
    (2) A person's ``own account'' means any account:
    (i) Held in the name of that person; or
    (ii) Held in the name of a person over whom that person exercises 
control or with whom that person is under common control, provided that 
this paragraph (b)(2)(ii) does not include:
    (A) An account in the name of a registered broker, dealer, or 
government securities dealer, or an investment company registered under 
the Investment Company Act of 1940; or
    (B) With respect to an investment adviser registered under the 
Investment Advisers Act of 1940, an account held in the name of a 
client of the adviser unless the adviser controls the client as a 
result of the adviser's right to vote or direct the vote of voting 
securities of the client, the adviser's right to sell or direct the 
sale of voting securities of the client, or the adviser's capital 
contributions to or rights to amounts upon dissolution of the client; 
or
    (C) With respect to any person, an account in the name of another 
person that is under common control with that person solely because 
both persons are clients of an investment adviser registered under the 
Investment Advisers Act of 1940 unless those accounts constitute a 
parallel account structure; or
    (iii) Held for the benefit of those persons identified in 
paragraphs (b)(2)(i) and (ii) of this section.
    (3) The term ``control'' has the same meaning as prescribed in 
Sec.  240.13h-l (Rule 13h-l), under the Act.
    (4) The term ``parallel account structure'' means a structure in 
which one or more private funds (each a ``parallel fund''), accounts, 
or other pools of assets (each a ``parallel managed account'') managed 
by the same investment adviser pursue substantially the same investment 
objective and strategy and invest side by side in substantially the 
same positions as another parallel fund or parallel managed account.
    (c) No presumption shall arise that a person is not a dealer within 
the meaning of Section 3(a)(5) (15 U.S.C. 78c(a)(5)) of the Act solely 
because that person does not satisfy paragraph (a) of this section.
0
3. Add Sec.  240.3a44-2 to read as follows:

 Sec.  240.3a44-2   Further definition of ``as a part of a regular 
business''.

    (a) A person that is engaged in buying and selling government 
securities for its own account is engaged in such activity ``as a part 
of a regular business'' as the phrase is used in Section 3(a)(44)(A) 
(15 U.S.C. 78c(a)(44)(A)) of the Act if that person:
    (1) Engages in a routine pattern of buying and selling government 
securities that has the effect of providing liquidity to other market 
participants by:
    (i) Routinely making roughly comparable purchases and sales of the

[[Page 23106]]

same or substantially similar government securities in a day; or
    (ii) Routinely expressing trading interests that are at or near the 
best available prices on both sides of the market and that are 
communicated and represented in a way that makes them accessible to 
other market participants; or
    (iii) Earning revenue primarily from capturing bid-ask spreads, by 
buying at the bid and selling at the offer, or from capturing any 
incentives offered by trading venues to liquidity-supplying trading 
interests; or
    (2) In each of four out of the last six calendar months, engaged in 
buying and selling more than $25 billion of trading volume in 
government securities as defined in Section 3(a)(42)(A) (15 U.S.C. 
78c(a)(42)(A)) of the Act; and
    (3) Is not:
    (i) A person that has or controls total assets of less than $50 
million; or
    (ii) An investment company registered under the Investment Company 
Act of 1940.
    (b) For purposes of this section:
    (1) The term ``person'' has the same meaning as prescribed in 
Section 3(a)(9) (15 U.S.C. 78c(a)(9)) of the Act.
    (2) A person's ``own account'' means any account:
    (i) Held in the name of that person; or
    (ii) Held in the name of a person over whom that person exercises 
control or with whom that person is under common control, provided that 
this paragraph (b)(2)(ii) does not include:
    (A) An account in the name of a registered broker, dealer, or 
government securities dealer, or an investment company registered under 
the Investment Company Act of 1940; or
    (B) With respect to an investment adviser registered under the 
Investment Advisers Act of 1940, an account held in the name of a 
client of the adviser unless the adviser controls the client as a 
result of the adviser's right to vote or direct the vote of voting 
securities of the client, the adviser's right to sell or direct the 
sale of voting securities of the client, or the adviser's capital 
contributions to or rights to amounts upon dissolution of the client; 
or
    (C) With respect to any person, an account in the name of another 
person that is under common control with that person solely because 
both persons are clients of an investment adviser registered under the 
Investment Advisers Act of 1940 unless those accounts constitute a 
parallel account structure; or
    (iii) Held for the benefit of those persons identified in 
paragraphs (b)(2)(i) and (ii) of this section.
    (3) The term ``control'' has the same meaning as prescribed in 
Sec.  240.13h-l (Rule 13h-l), under the Act.
    (4) The term ``parallel account structure'' means a structure in 
which one or more private funds (each a ``parallel fund''), accounts, 
or other pools of assets (each a ``parallel managed account'') managed 
by the same investment adviser pursue substantially the same investment 
objective and strategy and invest side by side in substantially the 
same positions as another parallel fund or parallel managed account.
    (c) No presumption shall arise that a person is not a government 
securities dealer within the meaning of Section 3(a)(44) (15 U.S.C. 
78c(a)(44)) of the Act solely because that person does not satisfy 
paragraph (a) of this section.

    By the Commission.

    Dated: March 28, 2022.
J. Matthew DeLesDernier,
Assistant Secretary.
[FR Doc. 2022-06960 Filed 4-15-22; 8:45 am]
BILLING CODE 8011-01-P