Investors, exchanges and other market participants told the U.S. Securities and Exchange Commission that changing “tick size” for some stocks can help fuel growth by making it easier for emerging firms to go public.
The SEC will consider industry comments gathered at a discussion on so-called decimalization today as it decides whether to propose a pilot program increasing tick size, the minimum quoting increment, for shares of select companies, a step supporters say would boost initial public offerings.
“I know that many feel today’s market structure including the current tick size regime does not recognize the particular needs of smaller companies, and that a detailed examination of the current structure is important and appropriate,” SEC Chairman Elisse B. Walter said at the meeting in Washington.
The SEC is required under the 2012 Jumpstart Our Business Startups Act to consider whether tick sizes for emerging growth companies should be higher than the current one-cent level but lower than 10 cents. Today’s meeting, involving executives from companies such as exchange operator Nasdaq OMX Group Inc. (NDAQ), online brokerage TD Ameritrade Holding Corp. (AMTD) and venture capital firm Andreessen Horowitz, is part of the agency’s effort evaluate the impact of tick sizes on securities markets.
Stocks of smaller companies tend to trade more lightly because they have fewer shares available to the public. Incentives to buy and sell the stocks were further reduced by a series of SEC regulations issued between 1997 and 2001, David Weild, a senior adviser at Grant Thornton LLP, wrote in a statement for the meeting.
While the SEC’s 2001 mandate for decimalization, or trading in decimals instead of fractions, reduced the cost to buy or sell shares, it also reduced incentives for investment banks to make markets in lightly-traded stocks. Combined with technology changes and rules that boosted competition, the change decreased the profitability of equity dealers, who used money earned on wider bid-ask spreads to fund analyst research.
“When the coverage begins to take hold, you will see the liquidity come back,” Jeffrey M. Solomon, chief executive officer of investment bank Cowen & Co., said at today’s meeting. “Because there is no place today for individual investors or small-cap institutional investors to find the information they need to make intelligent investments.”
Critics of decimalization point to a sharp decline in the number of initial public offerings since 2001. About 150 to 350 IPOs raised less than $25 million each year from 1991 to 1997, according to data compiled by Grant Thornton. Fewer than 50 companies did so annually beginning in 2000, the data show.
That view was challenged by several participants including Kent Womack, a finance professor at the University of Toronto, who said that private equity had “taken off” around the same time that IPOs declined.
“Maybe the perfect market that we all wish for was still there, the IPO market that is vibrant, maybe this just isn’t the driving force anymore,” Womack said.
Brian B. Conroy, president of Fidelity Capital Markets, said it wasn’t clear whether the benefits of increasing tick sizes outweigh the costs to investors.
“We are concerned that if there are changes in decimalization to raise the tick size, our transaction costs go up to no discernible benefit to our retail client or end investor,” Conroy said.
The SEC is weighing tick-size changes as it studies other potential market-structure reforms. The agency is studying elements of electronic markets and high-frequency trading such as maker-taker pricing, in which an exchange pays providers of liquidity for bids and offers and charges those executing against them.
SEC Commissioner Daniel M. Gallagher, who attended part of today’s meeting, said the commission has many market-structure elements to study before agreeing to a pilot program.
“I don’t think it’s a slam-dunk decision just to do a pilot,” Gallagher told reporters during a break. “We have real deep thoughts to think about equity market structure.”
Several participants told the SEC that a pilot should be based on characteristics such as market capitalization, public float and measures of liquidity, or the ease of buying and selling a security. The discussion generally suggested that companies in a pilot should have market values below $1 billion.
“Minimum tick sizes should vary according to the liquidity attributes of the individual stock,” Weild wrote in his prepared remarks, adding that the least liquid stocks may require tick sizes as large as 25 cents.
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