Supplemental Information and Reopening of Comment Period for Amendments Regarding the Definition of “Exchange”, 29448-29493 [2023-08544]
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Federal Register / Vol. 88, No. 87 / Friday, May 5, 2023 / Proposed Rules
Paper Comments
SECURITIES AND EXCHANGE
COMMISSION
17 CFR Parts 232, 240, 242, and 249
[Release No. 34–97309; File No. S7–02–22]
RIN 3235–AM45
Supplemental Information and
Reopening of Comment Period for
Amendments Regarding the Definition
of ‘‘Exchange’’
Securities and Exchange
Commission.
ACTION: Proposed rule; reopening of
comment period.
AGENCY:
The Securities and Exchange
Commission (‘‘Commission’’) is
reopening the comment period for its
proposal (‘‘Proposed Rules’’) to amend
the rule under the Securities Exchange
Act of 1934 (‘‘Exchange Act’’) that
defines certain terms used in the
statutory definition of ‘‘exchange.’’ The
reopening provides supplemental
information and economic analysis
regarding trading systems that trade
crypto asset securities that would be
newly included in the definition of
‘‘exchange’’ under the Proposed Rules.
The Commission is requesting further
information and public comment on
certain aspects of the Proposed Rules as
applicable to all securities and the
compliance dates and other alternatives
for the Proposed Rules. The Proposed
Rules were set forth in Release No. 34–
94062 (‘‘Proposing Release’’), and the
related comment period, which was
reopened in Release No. 34–94868 on
May 9, 2022, ended on June 13, 2022.
The reopening of this comment period
is intended to allow interested persons
further opportunity to analyze and
comment on the Proposed Rules in light
of the supplemental information
provided herein (‘‘Reopening Release’’).
DATES: The comment period for the
proposed amendments published on
March 18, 2022, at 87 FR 15496, which
was initially reopened on May 12, 2022,
at 87 FR 29059, is again reopened.
Comments should be received on or
before June 13, 2023.
ADDRESSES: Comments may be
submitted by any of the following
methods:
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SUMMARY:
Electronic Comments
• Use the Commission’s internet
comment form (https://www.sec.gov/
regulatory-actions/how-to-submitcomments); or
• Send an email to rule-comments@
sec.gov. Please include File Number S7–
02–22 on the subject line.
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• Send paper comments to Secretary,
Securities and Exchange Commission,
100 F Street NE, Washington, DC
20549–1090.
All submissions should refer to File
Number S7–02–22. 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 of submission. The
Commission will post all comments on
the Commission’s website (https://
www.sec.gov/rules/proposed.shtml).
Comments are also 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 a.m. and 3 p.m. Operating
conditions may limit access to the
Commission’s Public Reference Room.
All comments received will be posted
without change. 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
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:
Tyler Raimo, Assistant Director,
Matthew Cursio, David Garcia, Eugene
Hsia, Megan Mitchell, Amir Katz,
Special Counsels, and Joanne Kim,
Attorney Advisor, at (202) 551–5500,
Office of Market Supervision, Division
of Trading and Markets, Securities and
Exchange Commission, 100 F Street NE,
Washington, DC 20549.
SUPPLEMENTARY INFORMATION:
I. Background
A. Exchange Regulatory Framework
Exchange Act section 3(a)(1) states
that the term ‘‘exchange’’ means any
organization, association, or group of
persons, whether incorporated or
unincorporated, which constitutes,
maintains, or provides a market place or
facilities for bringing together
purchasers and sellers of securities or
for otherwise performing with respect to
securities the functions commonly
performed by a stock exchange as that
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term is generally understood, and
includes the market place and the
market facilities maintained by such
exchange.1
Title 17 section 240.3b–16(a) (‘‘Rule
3b–16(a)’’) defines certain terms in the
definition of ‘‘exchange’’ under section
3(a)(1) of the Exchange Act to include
any organization, association, or group
of persons that: (1) brings together the
orders for securities of multiple buyers
and sellers; and (2) uses established,
non-discretionary methods (whether by
providing a trading facility or by setting
rules) under which such orders interact
with each other, and the buyers and
sellers entering such orders agree to the
terms of a trade.2 Title 17 section
240.3b–16(b) (‘‘Rule 3b–16(b)’’)
explicitly excludes certain systems from
the definition of ‘‘exchange.’’ 3 Title 17
section 240.3b–16 (‘‘Rule 3b–16’’)
provides a functional test to assess
whether a trading platform meets the
definition of exchange and, if so,
triggers exchange registration. Section 5
of the Exchange Act 4 requires an
organization, association, or group of
persons that meets the definition of
‘‘exchange’’ under section 3(a)(1) of the
Exchange Act, unless otherwise exempt,
to register with the Commission as a
national securities exchange pursuant to
section 6 of the Exchange Act.5
Title 17 section 240.3a1–1(a)(2)
(‘‘Rule 3a1–1(a)(2)’’) exempts from the
Exchange Act section 3(a)(1) definition
of ‘‘exchange’’ an organization,
association, or group of persons that
complies with Regulation ATS, which
requires, among other things, meeting
the definition of an alternative trading
system (‘‘ATS’’) and registering as a
broker-dealer.6 As a result of the
exemption, an organization, association,
or group of persons that meets the
definition of an exchange and complies
with Regulation ATS is not required by
section 5 of the Exchange Act to register
1 See
15 U.S.C. 78c(a)(1).
17 CFR 240.3b–16(a).
3 See Securities Exchange Act Release No. 40760
(Dec. 8, 1998), 63 FR 70844, 70852 (Dec. 22, 1998)
(‘‘Regulation ATS Adopting Release’’). Specifically,
Rule 3b–16(b) excludes from the definition of
‘‘exchange’’ systems that perform only traditional
broker-dealer activities, including: systems that
route orders to a national securities exchange, a
market operated by a national securities association,
or a broker-dealer for execution, or systems that
allow persons to enter orders for execution against
the bids and offers of a single dealer if certain
additional conditions are met. 17 CFR 240.3b–16(b).
4 15 U.S.C. 78e. Registered national securities
exchanges are also self-regulatory organizations
(‘‘SROs’’), and must comply with regulatory
requirements applicable to both national securities
exchanges and SROs.
5 15 U.S.C. 78f.
6 ‘‘Regulation ATS’’ consists of 17 CFR 242.300
through 242.304 (Rules 300 through 304 under the
Exchange Act).
2 See
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as a national securities exchange
pursuant to section 6 of the Exchange
Act, is not an SRO, and, therefore, is not
required to comply with the regulatory
requirements applicable to national
securities exchanges and SROs.7
B. January 2022 Proposed Amendments
to Exchange Act Rule 3b–16
As described more fully in the
Proposing Release,8 the Commission
proposed to amend Exchange Act Rule
3b–16 to, among other things, replace
‘‘orders’’ with ‘‘trading interest’’ and
define ‘‘trading interest’’; 9 remove the
term ‘‘multiple’’ before ‘‘buyers and
sellers’’; 10 add ‘‘communication
protocols’’ as an example of an
established, non-discretionary method
that an organization, association, or
group of persons can provide to bring
together buyers and sellers of securities;
simplify and align the rule text with the
statutory definition of ‘‘exchange’’
under section 3(a)(1) of the Exchange
Act; and add an exclusion under
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7 An
ATS that fails to comply with the
requirements of Regulation ATS would no longer
qualify for the exemption provided under Rule 3a1–
1(a)(2), and thus, risks operating as an unregistered
exchange in violation of section 5 of the Exchange
Act. See Securities Exchange Act Release No. 83663
(July 18, 2018), 83 FR 38768, 38772 n.36 (Aug. 7,
2018) (‘‘NMS Stock ATS Adopting Release’’).
8 See Securities Exchange Act Release No. 94062
(Jan. 26, 2022), 87 FR 15496 (Mar. 18, 2022). The
Proposed Rules also: (1) re-proposed amendments
to Regulation ATS for 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 (‘‘Government
Securities ATSs’’); (2) proposed amendments to
Form ATS–N for NMS Stock ATSs and Government
Securities ATSs; (3) proposed amendments to 17
CFR 242.301(b)(5) (‘‘Rule 301(b)(5)’’) of Regulation
ATS (‘‘Fair Access Rule’’) for ATSs; (4) proposed to
require electronic filing of and to modernize Form
ATS and Form ATS–R; and (5) re-proposed
amendments to regulations regarding systems
compliance and integrity to apply to 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 governmentsponsored enterprise.
9 As proposed, ‘‘trading interest’’ (defined in
proposed Rule 300(q) of Regulation ATS) would
include ‘‘orders,’’ as the term is defined under 17
CFR 240.3b–16(c) (‘‘Rule 3b–16(c)’’), or any nonfirm 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. See
Proposing Release at 15540.
10 The Commission proposed removing the word
‘‘multiple’’ from Exchange Act Rule 3b–16(a)(1) to
mitigate confusion as to its application to non-firm
trading interest, including request-for-quote
(‘‘RFQ’’) systems, and align the rule more closely
with the statutory definition of ‘‘exchange,’’ which
does not contain the word ‘‘multiple’’ but includes
the plural terms ‘‘purchasers and sellers.’’ See id.
at 15506. The Commission also stated in the
Proposing Release that the use of plural terms in
‘‘buyers and sellers’’ in Rule 3b–16(a) and
‘‘purchasers and sellers’’ in the statutory definition
of ‘‘exchange’’ makes sufficiently clear that an
exchange need only have more than one buyer and
more than one seller participating on the system to
meet this prong. See id. at 15506 n.105.
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Exchange Act Rule 3b–16(b) for systems
that allow an issuer to sell its securities
to investors.
Specifically, the Commission
proposed to amend Exchange Act Rule
3b–16(a) to include within the
definition of ‘‘exchange’’ an
organization, association, or group of
persons that constitutes, maintains, or
provides a market place or facilities for
bringing together buyers and sellers of
securities or for otherwise performing
with respect to securities the functions
commonly performed by a stock
exchange if it is not subject to an
exception under Rule 3b–16(b) and it:
(1) brings together buyers and sellers of
securities using trading interest; and (2)
makes available established, nondiscretionary methods (whether by
providing a trading facility or
communication protocols, or by setting
rules) under which buyers and sellers
can interact and agree to the terms of a
trade. For purposes of this Reopening
Release, trading systems that meet the
criteria of Exchange Act Rule 3b–16(a),
as proposed to be amended (i.e., offer
the use of non-firm trading interest and
provide non-discretionary protocols),11
are referred to throughout the release as
‘‘New Rule 3b–16(a) Systems.’’ New
Rule 3b–16(a) Systems would be subject
to the definition of ‘‘exchange’’ and be
required to register as a national
securities exchange or comply with the
conditions to an exemption to such
registration, such as Regulation ATS.
C. Purpose of the Reopening Release
In response to the Proposing Release,
the Commission received many
comments.12 In particular, the
Commission received requests for
information about the application of the
Proposed Rules to trading systems for
crypto asset securities 13 and trading
systems that use distributed ledger or
blockchain technology (broadly referred
to as ‘‘DLT’’),14 including systems
commenters characterize as
11 Such systems were referred to as
‘‘Communication Protocol Systems’’ in the
Proposing Release. See id. at 15497 n.5.
12 See infra sections II.A and II.B. Comment
letters cited in this Reopening Release are comment
letters received in response to the Proposing
Release, which are available at https://www.sec.gov/
comments/s7-02-22/s70222.htm.
13 See infra note 26.
14 The terms DLT and blockchain, a type of DLT,
generally refer to databases that maintain
information across a network of computers in a
decentralized or distributed manner. Blockchain
networks commonly use cryptographic protocols to
ensure data integrity. See, e.g., World Bank Group,
‘‘Distributed Ledger Technology (DLT) and
Blockchain,’’ FinTech Note No. 1 (2017), available
at https://openknowledge.worldbank.org/bitstream/
handle/10986/29053/WP-PUBLIC-DistributedLedgerTechnology-and-Blockchain-FintechNotes.pdf?sequence=1&isAllowed=y.
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29449
decentralized finance or ‘‘DeFi.’’ 15
Commenters request information about
whether and how such systems can
comply with existing federal securities
laws and the Proposed Rules.16 Given
these comments, the Commission is
issuing this Reopening Release
regarding the potential effects of the
proposed amendments to Exchange Act
Rule 3b–16 on trading systems for
crypto asset securities and trading
systems using DLT, including systems
commenters characterize as various
forms of ‘‘DeFi,’’ and requesting further
information and public comment on
aspects of the Proposed Rules, more
generally. This Reopening Release also
supplements the economic analysis in
the Proposing Release by providing
additional analysis on the estimated
impact of the Proposed Rules on trading
systems for crypto asset securities and
those using DLT, which include various
so-called ‘‘DeFi’’ trading systems, and
requests further comment.
II. Exchange Activity Involving Crypto
Asset Securities and DLT Under the
Proposed Rules
A. Crypto Asset Securities
Commenters reflecting a broad range
of market participants shared feedback
on the application of the Proposed Rules
to all securities, including crypto assets
that are securities. Some commenters
agree with the Commission’s view 17
that the Proposed Rules should apply to
trading in any type of security,
regardless of the specific technology
used to issue and/or transfer the
security.18 Several commenters request
15 Commenters vary in their definitions of
‘‘DeFi,’’ or what makes a product, service,
arrangement or activity ‘‘decentralized.’’ See
generally The Board of the International
Organization of Securities Commissions, IOSCO
Decentralized Finance Report (Mar. 2022) (‘‘IOSCO
Decentralized Finance Report’’), available at
https://www.iosco.org/library/pubdocs/pdf/
IOSCOPD699.pdf. Trading systems for crypto assets
that are colloquially referred to as ‘‘decentralized’’
typically combine more traditional technology
(such as web-based systems that accept and display
orders and servers that store orders) with
distributed ledger technology (such as ‘‘smart
contract’’ provisioned blockchains—self-executing
code run on distributed ledgers that carry out ‘‘if/
then’’ type computations). See id. at 1. See also
infra note 44.
16 See, e.g., infra notes 25, 58, 80, 82–84, and 86–
87.
17 See Proposing Release at 15503.
18 See, e.g., Letters from Marcia E. Asquith,
Executive Vice President, Board and External
Relations, FINRA, dated Apr. 19, 2022 (‘‘FINRA
Letter’’) at 4; Stephen W. Hall, Legal Director and
Securities Specialist, and Scott Farnin, Legal
Counsel, Better Markets, Inc., dated Apr. 18, 2022
(‘‘Better Markets Letter’’) at 8; Tyler Gellasch,
Executive Director, Healthy Markets Association,
dated June 13, 2022 (‘‘Healthy Markets Letter’’) at
6 n.21 (stating that the Proposed Rules should apply
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that the Commission clarify whether the
Proposed Rules apply to crypto asset
securities.19 Commenters point to the
lack of any explicit references in the
Proposing Release to systems that trade
crypto asset securities, including socalled ‘‘DeFi’’ trading systems, with
some suggesting that such systems
would be outside the scope of the
Proposed Rules.20 One commenter
states that the Proposed Rules should
not apply to crypto asset securities.21
Some commenters state their view that
there is supposed regulatory uncertainty
as to which crypto assets are
securities.22 Some commenters state
that as a result of such supposed
uncertainty, it is unclear whether the
Proposed Rules would apply to socalled ‘‘DeFi’’ protocols.23 One
only to crypto assets that meet the definition of a
security under the Exchange Act ‘‘to avoid
unnecessarily creating regulatory inconsistencies
and loopholes, and fulfill its investor protection
mandate’’).
19 See, e.g., Letters from Jai Ramaswamy, Chief
Legal Officer and Miles Jennings, General Counsel,
a16zCrypto, A.H. Capital Management, LLC, dated
Apr. 18, 2022 (‘‘a16z Letter’’) at 3; Kristin Smith,
Executive Director and Jake Chervinsky, Head of
Policy, Blockchain Association, dated Apr. 18, 2022
(‘‘Blockchain Association Letter II’’) at 7–8; Brett
Kitt, Associate Vice President, Principal Associate
General Counsel, Nasdaq, Inc., dated Apr. 18, 2022
(‘‘Nasdaq Letter’’) at 5; Joanna Mallers, Secretary,
FIA Principal Traders Group, dated Apr. 21, 2022
(‘‘FIA PTG Letter’’) at 2; Sheila Warren, Chief
Executive Officer, Crypto Council for Innovation,
dated Apr. 18, 2022 (‘‘Crypto Council Letter’’) at 2;
Sasha Hodder, Hodder Law Firm, P.A., dated Feb.
25, 2022; Tim Lau, dated Apr. 4, 2022; Zachary
Stinson, dated Apr. 18, 2022 (‘‘Stinson Letter’’);
Karthik Mahalingam, dated Apr. 19, 2022.
20 See, e.g., Letters from Michelle Bond, Chief
Executive Officer, Association for Digital Asset
Markets, dated Apr. 18, 2022 (‘‘ADAM Letter II’’) at
14; Gus Coldebella and Gregory Xethalis, dated Apr.
18, 2022 (‘‘Coldebella and Xethalis Letter’’) at 1–2;
Crypto Council Letter at 3; a16z Letter at 7.
21 See ADAM Letter II at 3, 9–12.
22 See, e.g., a16z Letter at 3, 15–16 (stating that
the Commission has not made clear which digital
assets it believes are ‘‘securities’’); Blockchain
Association Letter II at 3, 9 (stating whether and
when a given digital asset may qualify as a security
under federal securities laws remains unclear);
Letter from LeXpunK, dated Apr. 18, 2022
(‘‘LeXpunK Letter’’) at 2 n.4 (stating that given the
‘‘lack of clarity with respect to the Commission’s
classification of digital assets and transactions
involving digital assets,’’ ‘‘there remains a looming
uncertainty as to whether the same would be
regarded as securities and securities transactions,
respectively’’).
23 See, e.g., a16z Letter at 3, 15–16 (stating that
given the uncertainty on which digital assets are
‘‘securities,’’ some so-called ‘‘DeFi systems or
protocols’’ that do not clearly meet the definition
of ‘‘Communication Protocol Systems’’ or facilitate
transactions in digital assets could endeavor to
comply with the Proposed Rules while other ‘‘DeFi
systems or protocols’’ might not, which raises the
danger of inconsistency and could create
unforeseen consequences in the market for digital
assets); Blockchain Association Letter II at 3, 9
(stating that given the Commission’s ‘‘expansive
view of what may be deemed a security, there
remains a risk that certain digital assets that users
trade through Decentralized Protocols may (ex post)
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commenter states that the Commission
should defer action on any rulemaking
impacting crypto assets until, among
things, such supposed uncertainty is
eliminated.24 Some commenters state
that the existing exchange regulatory
framework is incompatible with systems
that trade crypto asset securities using
so-called ‘‘DeFi protocols.’’ 25
Crypto assets 26 generally use DLT as
a method to record ownership and
be deemed by the [Commission] to be securities’’).
See also Damien G. Scott, Deputy General Counsel,
CoinList, dated Apr. 18, 2022 (‘‘CoinList Letter’’) at
1–2 (explaining that crypto asset industry needs
clarity about how the rules written for traditional
paper securities secured and validated by
intermediaries apply in practice to new digital
technology).
24 See Letter from Jay H. Knight, Chair of the
Federal Regulation of Securities Committee, Federal
Regulation of Securities Committee of the Business
Law Section of the American Bar Association, dated
Apr. 18, 2022 (‘‘ABA Letter’’) at 5–6 (suggesting the
Commission defer the application of the Proposed
Rules to digital asset intermediaries and their
underlying technology pending completion of
coordination among a broad range of government
agencies to develop an appropriate approach to
digital assets, pursuant to the Executive Order on
Ensuring the Responsible Development of Digital
Assets).
25 See, e.g., a16z Letter at 9 (‘‘But even casting
aside the practical challenges that DeFi protocols
would confront in attempting to follow Regulation
ATS, the Commission seems to overlook the fact
that the purposes behind Regulation ATS would not
be served by imposing its requirements on DeFi
protocols.’’); Letter from William C. Hughes, Senior
Counsel & Director of Global Regulatory Matters,
ConsenSys Software Inc., dated Apr. 14, 2022
(‘‘ConsenSys Letter’’) at 8 (‘‘The ’34 Act’s
requirements, tailored as they are to the centralized
nature of exchanges, make no sense when applied
to decentralized blockchain-based systems.’’); Letter
from Delphi Digital, dated Apr. 18, 2022 (‘‘Delphi
Digital Letter’’) at 6 (stating that ‘‘systems lacking
order-book logic, or which are sufficiently
decentralized (i.e., lacking any particular owner/
operator who could rationally be expected to
comply with the SEC’s intermediaries-based
regulatory regime)’’ have been viewed by
participants in the digital asset marketplace as
outside the scope of securities exchange regulation).
One commenter cites a paper stating that ‘‘[s]ome
characteristics of DeFi may be incompatible with
the existing regulatory framework, particularly
given that the current framework is designed for a
system that has financial intermediaries at its core.’’
See Letter from Jake Chervinsky, Head of Policy,
Blockchain Association and Miller WhitehouseLevine, Policy Director, DeFi Education Fund,
dated June 13, 2022 (‘‘Blockchain Association/DeFi
Education Fund Letter’’) at 4 (citing Org. for Econ.
Cooperation and Dev., Why Decentralised Finance
(DeFi) Matters and the Policy Implications (2022) at
12).
26 For purposes of this Reopening Release, the
Commission does not distinguish between the terms
‘‘digital asset securities’’ and ‘‘crypto asset
securities.’’ The term ‘‘digital asset’’ refers to an
asset that is issued and/or transferred using
distributed ledger or blockchain technology,
including, but not limited to, so-called ‘‘virtual
currencies,’’ ‘‘coins,’’ and ‘‘tokens.’’ See Securities
Exchange Act Release No. 90788 (Dec. 23, 2020), 86
FR 11627, 11627 n.1 (Feb. 26, 2021) (‘‘Commission
Statement on Custody of Digital Asset Securities by
Special Purpose Broker-Dealers’’). A digital asset
may or may not meet the definition of a ‘‘security’’
under the federal securities laws. See, e.g., Report
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transfers.27 Further, a crypto asset that
is a security is not a separate type or
category of security (e.g., NMS stock,
corporate bond) for purposes of federal
securities laws based solely on the use
of DLT. The definition of ‘‘exchange’’
under section 3(a)(1) of the Exchange
Act and existing Rule 3b–16 thereunder,
and the requirement that an exchange
register with the Commission pursuant
to section 5 of the Exchange Act, apply
to all securities, including crypto assets
that are securities, which include
investment contracts or any other type
of security.28 The Commission
understands that currently certain
trading systems for crypto assets,
including so-called ‘‘DeFi’’ systems,
operate like an exchange as defined
under federal securities laws—that is,
they bring together orders of multiple
buyers and sellers using established,
non-discretionary methods (by
providing a trading facility, for example)
under which such orders interact and
the buyers and sellers entering such
orders agree upon the terms of a trade.29
Because it is unlikely that systems
trading a large number of different
crypto assets are not trading any crypto
assets that are securities,30 these
of Investigation Pursuant to Section 21(a) of the
Securities Exchange Act of 1934: The DAO,
Securities Exchange Act Release No. 81207 (July 25,
2017) (‘‘DAO 21(a) Report’’), available at https://
www.sec.gov/litigation/investreport/34-81207.pdf.
See also SEC v. W.J. Howey Co., 328 U.S. 293
(1946). To the extent digital assets rely on
cryptographic protocols, these types of assets also
are commonly referred to as ‘‘crypto assets.’’
27 See Investment Advisers Act Release No. 6240
(Feb. 15, 2023), 88 FR 14672, 14676 n.25 and
accompanying text (Mar. 9, 2023); Securities
Exchange Act Release No. 96496 (Dec. 14, 2022), 88
FR 5440, 5448 n.94 and accompanying text (Jan. 27,
2023).
28 Section 3(a)(1) of the Exchange Act and Rule
3b–16 thereunder do not apply to market places or
facilities that do not trade securities. This would
also remain unchanged under Exchange Act Rule
3b–16, as proposed to be amended.
29 In addition to its exchange obligations,
depending on the facts and circumstances, an
organization, association, or group of persons
engaging in crypto asset securities business may
also have legal and regulatory obligations under the
federal securities laws for broker-dealer, custodial,
clearing, or lending activities, among others. See
U.S. Securities and Exchange Commission v. Beaxy
Digital, Ltd., et al., No. 23–cv–1962 (N.D. Ill. Mar.
29, 2023) (Docket Entries 1, 4) (final judgment
entered on consent enjoining crypto asset trading
platform from operating an unregistered exchange,
broker, and clearing agency).
30 See Fin. Stability Oversight Council, Report on
Digital Asset Financial Stability Risks and
Regulation 119 (2022) (‘‘FSOC Report’’) at 97,
available at https://home.treasury.gov/system/files/
261/FSOC-Digital-Assets-Report-2022.pdf. Each
system should analyze whether the crypto assets
that it offers for trading meet the definition of a
security under the federal securities laws and prior
Commission statements. See supra note 26. The
Commission will continue to evaluate whether
currently operating systems are acting consistent
with federal securities laws and the rules
thereunder.
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systems likely meet the current criteria
of Exchange Act Rule 3b–16(a) and are
subject to the exchange regulatory
framework.31 Indeed, the President’s
Executive Order on Ensuring
Responsible Development of Digital
Assets acknowledged that ‘‘many
activities involving digital assets are
within the scope of existing domestic
laws and regulations’’ and systems
trading such assets ‘‘should, as
appropriate, be subject to and in
compliance with regulatory and
supervisory standards that govern
traditional market infrastructures and
financial firms.’’ 32 The proposed
amendments to Exchange Act Rule 3b–
16 do not change any existing obligation
for these systems to register as a
national securities exchange or comply
with the conditions to an exemption to
such registration, such as Regulation
ATS.33
The Commission preliminarily
believes that some amount of crypto
asset securities trade on New Rule 3b–
16(a) Systems, and that such systems
may use DLT or be ‘‘DeFi’’ trading
systems, as described by some
commenters. Depending on facts and
circumstances, systems that offer the
use of non-firm trading interest and
provide non-discretionary protocols to
bring together buyers and sellers of
crypto assets securities 34 can perform a
market place function like that of an
exchange—that is, they allow
participants to discover prices, find
liquidity, locate counterparties, and
agree upon terms of a trade for
securities. The exchange regulatory
framework would provide market
participants that use New Rule 3b–16(a)
Systems for crypto asset securities with
transparency, fair and orderly markets,
and investor protections that apply to
today’s registered exchanges or ATSs.35
These benefits, in turn, promote capital
formation, competition, and market
efficiencies.36 An organization,
association, or group of persons that
31 See, e.g., DAO 21(a) Report at 17 (‘‘The
Platforms that traded DAO Tokens appear to have
satisfied the criteria of Rule 3b–16(a) and do not
appear to have been excluded from Rule 3b–
16(b).’’); In the Matter of Zachary Coburn, Securities
Exchange Act Release No. 84553 (Nov. 8, 2018)
(settled cease-and-desist order); In the Matter of
Poloniex, LLC, Securities Exchange Act Release No.
92607 (Aug. 9, 2021) (settled cease-and-desist
order).
32 See President’s Executive Order on Ensuring
Responsible Development of Digital Assets, dated
Mar. 9, 2022, available at https://
www.whitehouse.gov/briefing-room/presidentialactions/2022/03/09/executive-order-on-ensuringresponsible-development-of-digital-assets/.
33 17 CFR 242.300 through 242.304.
34 See Proposing Release at 15503.
35 See Regulation ATS Adopting Release at 70847.
36 See 15 U.S.C. 78c(f).
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constitutes, maintains, or provides a
market place or facilities for bringing
together purchasers and sellers of crypto
asset securities or performs with respect
to crypto asset securities the functions
commonly performed by a stock
exchange as that term is generally
understood under the criteria of
Exchange Act Rule 3b–16(a), as
proposed to be amended, would be an
exchange under section 3(a)(1) of the
Exchange Act and would be required to
register as a national securities exchange
or comply with the conditions of
Regulation ATS.
Some commenters question the
application of the proposed
amendments to Exchange Act Rule 3b–
16 to assets that may not be securities.37
In addition, commenters indicate that
many crypto asset trading systems offer
pairs trading,38 which typically involves
two crypto assets (which may or may
not be securities) that can be exchanged
directly for each other using their
relative price (‘‘trading pair’’).39 Trading
pairs consist of both a base and quote
asset; the base asset is the asset quoted
in terms of the value of the other (i.e.,
quote) asset in the trading pair.40 Today,
trading pairs can include a combination
37 See ADAM Letter II at 9 (stating that ‘‘it is
premature of the SEC to include digital assets
within the scope of the exchange regulatory
framework until such time as there is a better
understanding regarding the appropriate regulatory
approach for such assets’’); LeXpunK Letter at 2 n.4
(stating ‘‘where digital asset transactions do not
involve securities, U.S. securities laws (and the
instant proposed rulemaking) would be
inapplicable’’ and that ‘‘in light of the lack of clarity
with respect to the Commission’s classification of
digital assets and transactions involving digital
assets, however, there remains a looming
uncertainty as to whether the same would be
regarded as securities and securities transactions,
respectively’’); a16z Letter at 15–16 (stating that the
Proposing Release ‘‘does not mention ‘digital asset
securities’ or ‘investment contracts,’ two of the
terms the Commission uses to describe digital assets
believed to be securities’’ and that the ‘‘omissions
will further compound the uncertainty over
whether the Proposal was meant to cover digital
assets’’).
38 See LeXpunK Letter at 4 and 4 n.19; Delphi
Digital Letter at 7 (stating that, in the context of
systems that use ‘‘technology in DeFi,’’ automated
market makers (‘‘AMMs’’) use ‘‘liquidity pools,’’
which ‘‘represents assets in (and a market for) a
single token pair’’ that are ‘‘ ‘locked’ within smart
contracts’’).
39 See Fan Fang, Carmine Ventre, Michail Basios
et al., Cryptocurrency Trading: A Comprehensive
Survey, 8 Fin. Innovation 13 (2022), available at
https://doi.org/10.1186/s40854-021-00321-6 (stating
that in general, pairs trading involves two similar
assets with a stable long-run relationship and
slightly different spreads, and if the spread widens,
investors short the high-priced crypto asset and buy
the low-priced crypto asset).
40 See A Review of Cryptoasset Market Structure
and Regulation in the United States, Feb. 2023,
Program on International Financial Systems,
available at https://www.pifsinternational.org/
cryptoasset-market-structure-and-regulation-in-theu-s/ (‘‘PIFS Crypto Review’’).
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of securities and non-securities and
frequently include so-called stablecoins,
bitcoin, or ether as the base asset, quote
asset, or both.41 Users entering a trading
pair on a system can exchange one
crypto asset for another without
exchanging the crypto asset for U.S.
dollars (or other fiat currency) by
simultaneously selling one asset while
buying another on the system without
exchanging either crypto asset for U.S.
dollars first.
Section 3(a)(1) of the Exchange Act
and Rule 3b–16 state that an exchange
is any organization, association, or
group of persons which constitutes,
maintains, or provides a market place or
facilities for bringing together
purchasers and sellers of securities or
for otherwise performing with respect to
securities the functions commonly
performed by a stock exchange as that
term is generally understood.42 An
organization, association, or group of
persons that meets the criteria of
existing Exchange Act Rule 3b–16(a),
and Rule 3b–16(a), as proposed to be
amended, and makes available for
trading a security and a non-security
would meet the definition of
‘‘exchange’’ notwithstanding the fact
that the entity traded non-securities. For
its securities activities, the organization,
association, or group of person must
register as a national securities exchange
or comply with the conditions of
Regulation ATS.43 Market places or
facilities of, and the functions
performed by, national securities
exchanges and ATSs trade only
securities quoted in and paid for in U.S.
dollars.
The Commission is soliciting
additional comment on Rule 3b–16, as
proposed to be amended, and in
41 Crypto asset trading pairs offered by trading
systems today also include other combinations (e.g.,
crypto asset (security or non-security) for another
crypto asset (security or non-security)). While some
of the major crypto asset trading systems available
in the U.S. allow trading in U.S. dollars, others only
allow trading between different crypto assets and
not fiat currencies. The main base asset used on
certain of these other systems is Tether (USDT). See
Igor Makarov & Antoinette Schoar, Trading and
Arbitrage in Cryptocurrency Markets, 135 J. Fin.
Econ. 293 (2020). See also PIFS Crypto Review at
10–11 (stating that most global bitcoin trading is
conducted with stablecoins rather than fiat
currency).
42 See 15 U.S.C. 78c(a)(1).
43 Section 5 of the Exchange Act states that ‘‘[i]t
shall be unlawful for any . . . exchange, directly or
indirectly, to make use of the mails or any means
or instrumentality of interstate commerce for the
purpose of using any facility of an exchange within
or subject to the jurisdiction of the United States to
effect any transaction in a security, or to report any
such transaction, unless such exchange (1) is
registered as national securities exchange under
[section 6 of the Exchange Act], or (2) is exempted
from such registration . . . .’’ See 15 U.S.C. 78e.
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particular responses to the following
questions:
1. Should a New Rule 3b–16(a)
System that trades crypto asset
securities have the choice of registering
as a national securities exchange or
complying with the conditions of
Regulation ATS? Why or why not?
2. Please describe any trading systems
that currently offer the use of non-firm
trading interest and provide nondiscretionary protocols to bring together
buyers and sellers of crypto asset
securities, including a description of
trading interest used, functionalities or
protocols, requirements, limitations,
types of market participants that use the
systems, transaction volume, crypto
asset securities offered for trading, and
any other services offered by the system.
Please provide any data, literature, or
other information that you consider
relevant to the Commission’s analysis of
New Rule 3b–16(a) Systems for crypto
asset securities, including but not
limited to, the types of systems, the
amount of trading volume on such
systems, the number of participants on
such systems (as well as the participant
types, such as institutional and retail),
and the types of crypto asset securities
they trade.
3. Do organizations, associations, or
groups of persons that meet the criteria
of New Rule 3b–16(a) Systems and trade
crypto asset securities quote a security
in an asset other than in U.S. dollars,
such as a non-security crypto asset, and
provide for the purchase or sale of that
asset on the system or off-system? How
do investors and trading systems use
pairs trading involving non-security
crypto assets and crypto asset
securities? Are there significant
differences between investors’ use of
pairs trading on centralized trading
systems versus trading systems that
commenters describe as ‘‘DeFi’’? Please
explain. For example, approximately
how much trading volume for crypto
asset securities is executed using trading
pairs on various types of platforms
discussed above? What percentage of
trading in crypto asset securities, in
terms of volume executed, is in
exchange for U.S. dollars? Please
provide any data, literature, or other
information that you consider relevant
to the Commission’s analysis.
B. Exchange Activity Using DLT,
Including ‘‘DeFi’’ Systems
1. Technology Neutral and Functional
Test of the ‘‘Exchange’’ Definition
The Commission received comments
regarding whether the proposed
amendments to Exchange Act Rule 3b–
16 were intended to apply to what
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commenters characterize as ‘‘DeFi,’’ and
comments stating that the Proposed
Rules could be interpreted to cover a
broad range of technologies, including
technologies used by so-called ‘‘DeFi’’
trading systems.44 Some commenters
state that so-called ‘‘DeFi’’ trading
systems should be excluded from
Exchange Act Rule 3b–16(a), as
proposed to be amended.45
44 See, e.g., ConsenSys Letter at 8–9 (requesting
that any final rule make clear that ‘‘blockchainbased systems’’ would not be exchanges); a16z
Letter at 1, 2, 28 (stating, among other things, that
the Proposed Rules could be interpreted as applying
to a broad array of technologies, including ‘‘DeFi
systems and protocols’’); Crypto Council Letter at 2,
4 (stating, in part, that the Proposed Rules could
apply to the ‘‘crypto and decentralized finance
markets’’); LeXpunK Letter at 3 (stating, in part, its
belief that many ‘‘DeFi protocols and applications’’
would meet the definition of a ‘‘communication
protocol system’’ under the Proposed Rules); Global
Digital Asset & Cryptocurrency Association, dated
Apr. 18, 2022 (‘‘GDCA Letter II’’) at 11 (questioning
whether ‘‘decentralized exchanges’’ would fall
under the definition of ‘‘exchange’’); Letter from
Miller Whitehouse-Levine, Policy Director, DeFi
Education Fund, dated Apr. 18, 2022 (‘‘DeFi
Education Fund Letter’’) at 3, 15 (stating, in part,
that, without clarification, the Proposed Rules
could be interpreted to regulate certain ‘‘DeFi
protocols’’); Letter from Dante Disparte, Chief
Strategy Officer and Head of Global Policy, Circle
internet Financial, LLC, dated Apr. 18, 2022
(‘‘Circle Letter’’) at 3; Letter from Michelle Bond,
Chief Executive Officer, Association for Digital
Asset Markets, dated Feb. 2, 2022 (‘‘ADAM Letter
I’’) at 1–2 (stating that the Proposed Rules could
expand Commission authority over ‘‘spot digital
asset markets and peer-to-peer decentralized
networks’’ in ways not discussed in the Proposing
Release); Letter from Kimberly Unger, The Security
Traders Association of New York, dated Feb. 3,
2022 (‘‘STANY Letter’’) at 2; Letter from Andrew
Vollmer, Mercatus Center at George Mason
University, dated Mar. 11, 2022 (‘‘Vollmer Letter’’)
at 2. Two commenters also state their belief that
there is a lack of clarity as to the application of the
Proposed Rules to ‘‘decentralized finance’’ or ‘‘DeFi
protocols’’ that raises administrative due process
concerns for industry participants. See ConsenSys
Letter at 18; DeFi Education Fund Letter at 19. The
foregoing commenters describe systems that use
DLT with varying definitions and terminology
(some of which the commenters do not define). As
discussed above, there is no generally agreed upon
definition of ‘‘DeFi’’ or decentralization. See IOSCO
Decentralized Finance Report at 1, 9. Nonetheless,
as discussed below, the Proposed Rules, like the
existing exchange framework, regulate exchange
activity, and not the technology underlying such
activity.
45 See, e.g., a16z Letter at 3 (stating that ‘‘DeFi
protocols eliminate the need for a central operator
that could implement regulatory requirements
applicable to traditional securities exchanges or
broker-dealers’’ and therefore the Commission
should ‘‘clarify that the [p]roposal does not apply
to DeFi systems by explicitly excluding them’’);
LeXpunK Letter at 2 (stating that the Proposed
Rules would improperly expand the Commission’s
authority to regulate ‘‘technologists with neither the
resources nor the reasonable expectation of being so
regulated, who ‘make available’ peer-to-peer
‘communication protocols’ used in DeFi’’);
ConsenSys Letter at 8–12 (stating its belief that the
term ‘‘communication protocols’’ does not cover
‘‘blockchain-based systems’’); Delphi Digital Letter
at 6 (stating that, unless ‘‘decentralized-in-actuality
software systems—including ‘automatic marketmaking’ smart contract systems’’ are carved out of
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When adopting Exchange Act Rule
3b–16, the Commission stated that the
exchange framework is based on the
functions performed by a trading
system, not on its use of technology.46
Notwithstanding how an entity may
characterize itself or the technology it
uses, a functional approach (taking into
account the relevant facts and
circumstances) will be applied when
assessing whether the activities of a
trading system meet the definition of an
exchange. These principles continue to
apply today under existing Rule 3b–16
and would equally apply under Rule
3b–16, as proposed to be amended.47
Accordingly, an organization,
association, or group of persons that
uses any form or forms of technology
(e.g., DLT, including technologies used
by so-called ‘‘DeFi’’ trading systems,
computers, networks, the internet,
cloud, telephones, algorithms, a
the term ‘‘communication protocols,’’ the Proposed
Rules would impose ‘‘impossible compliance
obligations on persons who may merely write opensource ‘communications protocol’ code or publish
information about the contents of communications
systems which they do not control’’); Blockchain
Association Letter II at 3 (stating that application of
the Proposed Rules to ‘‘decentralized exchange
protocols through which digital assets may be
traded, [and] operate[d] autonomously and
automatically through smart contracts and the
participation of their users’’ would exceed the
Commission’s statutory authority under the
Exchange Act); Letter from Spence Purnell, Director
of Technology Policy, Reason Foundation, dated
Feb. 23, 2022 at 2 (stating that the Proposed Rules
should not apply to ‘‘technologies such as
decentralized finance and smart-contracts’’ because
they were not explicitly considered in the
Proposing Release); Letter from Bryant Eisenbach,
dated Feb. 2, 2022 (‘‘Eisenbach Letter’’). See also
Letter from Rep. Patrick McHenry, Ranking
Member, and Rep. Bill Huizenga, Ranking Member
Subcommittee on Investor Protection,
Entrepreneurship and Capital Markets, House
Committee on Financial Services, dated Apr. 18,
2022 (‘‘McHenry/Huizenga Letter’’) (expressing
concern that the Proposed Rules ‘‘can be interpreted
to expand the SEC’s jurisdiction beyond its existing
statutory authority to regulate market participants
in the digital asset ecosystem, including in
decentralized finance’’).
46 See Regulation ATS Adopting Release at 70902.
47 See, e.g., DAO 21(a) Report (stating that ‘‘any
entity or person engaging in the activities of an
exchange, such as bringing together the orders for
securities of multiple buyers and sellers using
established non-discretionary methods under which
such orders interact with each other and buyers and
sellers entering such orders agree upon the terms
of the trade, must register as a national securities
exchange or operate pursuant to an exemption from
such registration,’’ ‘‘the automation of certain
functions through this technology, ‘smart contracts,’
or computer code, does not remove conduct from
the purview of the U.S. federal securities laws,’’ and
that the requirements of the U.S. federal securities
laws ‘‘apply to those who offer and sell securities
in the United States, regardless whether the issuing
entity is a traditional company or a decentralized
autonomous organization, regardless whether those
securities are purchased using U.S. dollars or
virtual currencies, and regardless whether they are
distributed in certificated form or through
distributed ledger technology’’).
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physical trading floor) that constitutes,
maintains, or provides a market place
for bringing together purchasers and
sellers of securities, including crypto
asset securities, or for otherwise
performing with respect to securities the
functions commonly performed by a
stock exchange under the current
criteria of Exchange Act Rule 3b–16(a),
or Exchange Act Rule 3b–16(a), as
proposed to be amended, would be an
exchange and would be required to
register as a national securities exchange
or comply with the conditions of
Regulation ATS.
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2. So-Called ‘‘DeFi’’ Systems and
Exchange Act Rule 3b–16
Several commenters state their belief
that the Proposed Rules could cause
what they describe as ‘‘DeFi’’ trading
systems to meet the criteria of Exchange
Act Rule 3b–16(a), as proposed to be
amended.48 So-called ‘‘DeFi’’ trading
systems can be used to allow investors
to discover prices, find liquidity, locate
counterparties, and agree upon terms of
a trade for securities, including crypto
asset securities, thereby performing
market place activities or functions
commonly performed by a stock
exchange. Today, many systems, some
of which are described as ‘‘DeFi’’ by
commenters, bring together buyers and
sellers of securities, including crypto
asset securities, and could meet the
existing criteria of Exchange Act Rule
3b–16(a). The Commission understands
that so-called ‘‘DeFi’’ trading systems
often rely on electronic messages that
are exchanged between buyers and
sellers so that they can agree upon the
terms of a trade without negotiations.49
48 See DeFi Education Fund Letter at 15; Circle
Letter at 3; ADAM Letter I at 1–2; STANY Letter at
2; Vollmer Letter at 2; Crypto Council Letter at 2;
LeXpunK Letter at 7–8.
49 For example, AMM is a mechanism designed
to create liquidity for others seeking to effectuate
trades. See President’s Working Group on Financial
Markets, Federal Deposit Insurance Corporation,
and Office of the Comptroller of the Currency,
Report on Stablecoins (Nov. 2021), available at
https://home.treasury.gov/system/files/136/
StableCoinReport_Nov1_508.pdf. Liquidity pools of
so-called ‘‘DeFi’’ trading systems rely on AMM
protocols which typically use preset mathematical
equations (e.g., x*y=k, where x and y represent the
values of tokens in a liquidity pair and k is a
constant) to ensure the ratio of assets in the
liquidity pools remains balanced and determine
prices based on trading volumes. See U.S.
Department of the Treasury, Crypto-Assets:
Implications for Consumers, Investors, and
Businesses (Sept. 2022) (‘‘Crypto-Assets Treasury
Report’’), available at https://home.treasury.gov/
system/files/136/CryptoAsset_EO5.pdf. Some
commenters argue that systems that use AMMs do
not use trading interest as described in the
Proposed Rules. See LeXpunK Letter at 12–13;
Delphi Digital Letter at 9–10. One commenter states
that AMM users do not interact with each other but
with a pool of liquidity resting in a smart contract.
See LeXpunK Letter at 12–13. This commenter
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If these electronic messages constitute a
firm willingness to buy or sell a
security, including a crypto asset
security, the messages would meet the
definition of orders under existing Rule
3b–16(c).50 And if established, nondiscretionary method(s) under which
orders of multiple buyers and sellers
interact with each other are provided,
such as through the provision of certain
smart contract functionality, the
activities would be covered under
existing Rule 3b–16(a). Accordingly,
depending on the facts and
circumstances, activities performed
today using so-called ‘‘DeFi’’ trading
systems could meet the criteria of
existing Rule 3b–16 and thus constitute
exchange activity. The proposed
amendments to Rule 3b–16(a) would
not, in any way, change whether such
activities constitute exchange activity
under section 3(a)(1) and Rule 3b–16(a).
As discussed above, the Commission
preliminarily believes that New Rule
3b–16(a) Systems, including some socalled ‘‘DeFi’’ systems, trade some
amount of crypto asset securities, and
would, under the proposed amendments
to Exchange Act Rule 3b–16(a), be
required to register as a national
securities exchange or comply with the
conditions of Regulation ATS.
3. Custodial Services Is Generally Not
Relevant to Exchange Analysis
Some commenters state that because
so-called ‘‘DeFi’’ trading systems do not
custody assets, they should not be
subject to exchange regulation.51 One
commenter states that trading
conducted using ‘‘DeFi’’ trading systems
does not involve users depositing assets
with a central authority.52 Another
commenter states that ‘‘custody’’ with
reference to ‘‘DeFi’’ means self-custody,
which the commenter states does not fit
states that forms of non-firm trading interest—
conditional orders and indications of interest—
discussed in the Proposing Release, ‘‘do not align
with AMMs provision of automated liquidity
through the smart contract-based deterministic
mechanisms,’’ where no party imposes such
conditions or communicates such interest. See id.
One commenter states that there are no ‘‘orders’’ on
an AMM because, in contrast to a ‘‘centralized’’
platform which permits makers and takers to agree
upon a price, an AMM sets the price. See Delphi
Digital Letter at 9–10.
50 See 17 CFR 240.3b–16(c).
51 See a16z Letter at 8–9; GDCA Letter II at 11;
DeFi Education Fund Letter at 6. See also LeXpunK
Letter at 4 n.18 (stating that no ‘‘ ‘custody’ or
‘transfer’ actually occurs’’ in the context of a ‘‘smart
contract-based platform’’).
52 See a16z Letter at 8–9. The commenter cites a
paper stating ‘‘one of the main advantages of
decentralized exchanges over centralized exchanges
is the ability for users to keep control of their
private keys.’’ See id. at 8 n.41 (citing Igor Makarov
& Antoinette Schoar, Cryptocurrencies and
Decentralized Finance (DeFi) 23 (Brookings Paper
on Econ. Activity, Conference Draft, 2022)).
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‘‘the Commission’s model, under which
all exchanges are centralized.’’ 53
Neither existing Exchange Act Rule 3b–
16 nor Rule 3b–16, as proposed to be
amended, requires an organization,
association, or group of persons to
provide custodial services to be
considered an exchange under section
3(a)(1) of the Exchange Act and Rule
3b–16 thereunder.54 Thus, custodial
services generally is not a relevant factor
to the exchange analysis.
4. Group of Persons as the Exchange
Some commenters ask that the
Commission explain which actor or
group of actors would be responsible for
compliance and how so-called ‘‘DeFi’’
trading systems should comply with
exchange regulatory requirements.55
Some commenters express concerns that
the proposed amendments to Exchange
Act Rule 3b–16(a) would
inappropriately apply to systems that
purport not to involve intermediaries.56
One commenter states that providers of
rule sets on how messages should be
formed, stored, and relayed on a
network are not like ‘‘intermediaries of
the traditional financial system’’
because ‘‘all they are doing is
53 See GDCA Letter II at 11. See also DeFi
Education Fund Letter at 6 (stating ‘‘DeFi
protocols’’ present ‘‘no financial risk for users from
broker activity or custody’’). One commenter also
states that the Commission has provided no public
guidance regarding how a digital asset
communication protocol system could arrange for
custody and settlement to the Commission’s
satisfaction, in order to operate as an exchange. See
GDCA Letter II at 10. Further, some commenters
question how exchange regulation will apply to
trading activities that use ‘‘DeFi’’ and do not
involve an intermediary for trading or to custody
securities. See supra note 52 and infra note 56.
54 The Customer Protection Rule requires a
broker-dealer to promptly obtain and thereafter
maintain physical possession or control of all fullypaid and excess margin securities it carries for the
account of customers. See 17 CFR 240.15c3–3(b). In
2020, the Commission issued a statement describing
its position that, for a period of five years, special
purpose broker-dealers operating under the
circumstances set forth in the statement will not be
subject to a Commission enforcement action on the
basis that the broker-dealer deems itself to have
obtained and maintained physical possession or
control of customer fully-paid and excess margin
crypto asset securities for purposes of 17 CFR
240.15c3–3(b)(1) (‘‘Rule 15c3–3(b)(1)’’) under the
Exchange Act. See Commission Statement on
Custody of Digital Asset Securities by Special
Purpose Broker-Dealers. To date, no person has
been approved to act as a special purpose brokerdealer custodying crypto asset securities.
55 See Letter from Paul Grewal, Chief Legal
Officer, Coinbase Global, Inc., dated Apr. 18, 2022
(‘‘Coinbase Letter’’) at 7; a16z Letter at 3;
Blockchain Association Letter II at 8.
56 See a16z Letter at 10; ConsenSys Letter at 8;
DeFi Education Fund Letter at 3, 11; Blockchain
Association Letter II at 3, 5; CoinList Letter at 2;
Eisenbach Letter at 2. For example, one commenter
states that what it calls ‘‘decentralized’’ systems
allow anyone to participate rather than rely on
gatekeepers. See ConsenSys Letter at 8.
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publishing particular arrangements of 0s
and 1s.’’ 57 In addition, some
commenters state that ‘‘DeFi’’ trading
systems may be unable to comply with
exchange regulatory requirements
because they lack a central operator.58
Some commenters interpret Exchange
Act Rule 3b–16(a), as proposed to be
amended, to mean that each entity that
performs any exchange function would
need to register as a national securities
exchange or comply with the conditions
of Regulation ATS.59 For example, some
commenters state that, under the
proposed amendments to Exchange Act
Rule 3b–16(a), exchange regulation
could extend to persons including open
source developers who contribute code
to the software repositories where
software for so-called ‘‘DeFi’’ trading
systems is first published, persons who
republish and share this information,
and persons who connect to the peer-topeer networks on which ‘‘DeFi’’
activities takes place.60 One commenter
states that the group of persons involved
in a ‘‘DeFi’’ trading system—including
developers, AMMs, and miners—could
all comprise essential components of
the market infrastructure.61 This
commenter further states that the fact
that these roles might be
‘‘decentralized’’ does not change that
they would be considered a group of
persons who constitutes, maintains, or
provides facilities for bringing together
purchasers and sellers of securities.62
The existence of smart contracts on a
blockchain does not materialize in the
absence of human activity or a machine
(or code) controlled or deployed by
humans. The Commission understands
that, typically, including for so-called
‘‘DeFi’’ trading systems, a single
organization constitutes, maintains, or
provides the market place or facilities
for bringing together buyers and sellers
of securities or otherwise performs with
respect to securities the functions
commonly performed by a stock
exchange under section 3(a)(1) and
Exchange Act Rule 3b-16 thereunder.63
While it is common today for a single
organization to provide a market place
or facilities to bring together buyers and
sellers of securities and meet the
definition of an exchange, an exchange
can also exist where a market place or
facilities are provided by a group of
persons, rather than a single
organization.64 Under section 3(a)(1),
and Exchange Act Rule 3b-16(a), the
term exchange ‘‘means any organization,
association, or group of persons,
whether incorporated or
unincorporated, which constitutes,
maintains, or provides a market place or
facilities for bringing together buyers
and sellers of securities or perform with
respect to securities the functions
commonly performed by a stock
exchange.’’ 65 Thus, a group of persons,
whether incorporated or
unincorporated, can together constitute,
maintain, or provide a market place or
facilities or perform with respect to
securities the functions commonly
performed by a stock exchange. In
determining which persons would be
included in the group of persons that
constitutes, maintains, or provides an
exchange or performs with respect to
securities the functions commonly
performed by a stock exchange,
important factors would generally
include whether the persons act in
concert in establishing, maintaining, or
providing a market place or facilities for
bringing together buyers and sellers of
securities or in performing with respect
57 See Letter from Coin Center, dated Apr. 14,
2022 (‘‘Coin Center Letter’’) at 13. Another
commenter states that developers of ‘‘DeFi
protocols’’ would not qualify as a ‘‘group of
persons’’ because they ‘‘merely make tools available
for parties to communicate.’’ See DeFi Education
Fund Letter at 15.
58 See, e.g., a16z Letter at 3; Coin Center Letter at
12; CoinList Letter at 2; GDCA Letter II at 11;
Blockchain Association/DeFi Education Fund Letter
at 5.
59 See, e.g., Letter from Robert Toomey, Managing
Director and Associate General Counsel, Securities
Industry and Financial Markets Association, dated
June 13, 2022 (‘‘SIFMA Letter II’’) at 8.
60 See Coin Center Letter at 25. See also Delphi
Digital Letter at 9 (stating that participants could
‘‘number in the hundreds or thousands and be
distributed all over the world’’).
61 See Letter from James F. Tierney, Assistant
Professor of Law, University of Nebraska College of
Law, dated June 13, 2022 (‘‘Tierney Letter’’) at 2
(stating that these participants in ‘‘blockchain and
other DeFi applications’’ all ‘‘might play analogous
roles to in-house counsel, market makers, and backoffice clearance roles in a traditional exchange
setup’’).
62 See id.
63 See IOSCO Decentralization Finance Report at
8 n.13 (stating that ‘‘claims about decentralization
for many projects may not hold up to scrutiny of
the technical reality of what can be changed in the
system, who can be involved in the decisions, and
who actually is involved’’).
64 The term ‘‘person’’ means a natural person,
company, government, or political subdivision,
agency, or instrumentality of a government. 15
U.S.C. 78c(a)(9).
65 In a recent decision, the United States Court of
Appeals for the District of Columbia Circuit held
that the term ‘‘group of persons’’ ‘‘certainly
includes closely connected corporate affiliates’’ and
noted that ‘‘[w]hether two or more persons are or
may be acting in concert is likely the key
consideration’’ in determining whether two or more
entities may constitute a ‘‘group of persons’’ for
purposes of the statute. Intercontinental Exch., Inc.
v. SEC, 23 F.4th 1013, 1024 (D.C. Cir. 2022). In
addition, the court stated that it was ‘‘not
suggest[ing] the term ‘group of persons’ is
synonymous with corporate affiliation’’ and that
‘‘one corporation that is affiliated with but not
controlled by another may or may not, depending
upon the circumstances, be considered a ‘group of
persons’ ’’ for the purposes of section 3(a)(1) of the
Exchange Act. See id.
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to securities the functions commonly
performed by a stock exchange, or
exercise control, or share control, over
aspects of such market place or facilities
or the performance of functions
commonly performed by a stock
exchange. In particular, when a group of
persons exercises control, or shares
control, over the organizational,
financial, or operational aspects of a
market place or facilities for bringing
together buyers and sellers of securities,
they are a group of persons that can be
deemed to constitute, maintain, or
provide the market place or facilities.66
Whether persons act in concert or
exercise control, or share control,
requires an analysis of the activities of
each person and the totality of facts and
circumstances. In assessing whether a
person would be acting in concert with
a group of persons, one factor to
consider, depending on other facts and
circumstances, would be the extent to
which a person acts with an agreement
(formal or informal) to constitute,
maintain, or provide a market place or
facilities for bringing together buyers
and sellers of securities or to perform
with respect to securities a function
commonly performed by a stock
exchange. For example, if one entity
agrees with another entity to combine
aspects of each other’s market places or
facilities (e.g., order books, display
functionalities, or matching engines) to
bring together buyers and sellers of
securities, both entities could be
considered part of the group and thus an
exchange.
66 In the Proposing Release, the Commission
explained that, depending on the activities of the
persons involved with the market place or facilities,
a group of persons, who may each perform a
function of the market place that meets the criteria
of Exchange Act Rule 3b–16, can together provide,
constitute, or maintain a market place or facilities
for bringing together buyers and sellers of securities
and together meet the definition of exchange. See
Proposing Release at 15506 n.109. See also
Regulation ATS Adopting Release at 70891 (‘‘. . .
any subsidiary or affiliate of a registered exchange
could not integrate, or otherwise link the alternative
trading system with the exchange, including using
the premises or property of such exchange for
effecting or reporting a transaction, without being
considered a ‘facility of the exchange.’ ’’). In
determining whether affiliated persons would be a
‘‘group of persons’’ for the purposes of section
3(a)(1) of the Exchange Act and Rule 3b–16
thereunder, an important factor is whether the
operations and management of the affiliated
persons are separate. For example, an affiliated
entity of an exchange might not be considered a
group of persons with that exchange if there is
independent governance, management, and
oversight between affiliated entities; prevention of
strategic coordination or information sharing
between the affiliated entities by way of
information barriers and other procedures;
separation of functions relating to technology,
operations and infrastructure, sales and marketing,
branding, and staffing; and avoidance of business
links, such as routing, fees, billing, and
membership.
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Control could occur through several
means, including, among other things,
ownership interest, corporate
organizational structure and
management, significant financial
interest, or the ability to determine or
modify participant access, securities
traded, operations or trading policies, or
non-discretionary methods of the
market place or facilities. For example,
a person that can determine or modify,
either individually or with others, the
entering, storing, matching, or display of
trading interest (e.g., a matching engine,
a smart contract) would be exercising
control over the operations of the
market place or facilities. In addition, a
person that can determine or modify, or
grant or limit access to, for example,
either individually or with others, the
market or other data about the securities
and securities transactions available on
the market place or facility, order types,
order interaction procedures (e.g.,
counterparty selection, segmentation),
the priority or price at which trading
interest will execute, or protocols for
negotiation, would have the ability to
determine trading policies or methods
and exercise control over the market
place or facilities.
The ability to exercise control over a
market place or facilities is not limited
solely to the operational control.67 Also,
a person that, for example, either
individually or with others, can
determine or modify, with respect to the
market place or facilities, the securities
made available for trading or the access
requirements and conditions for
participation would be exercising
control. In addition, a person could
exercise control by determining who
can, and in what amount, share in
profits or revenues derived from the
market place or facilities, or by having
the ability to enter into legal or financial
agreements or arrangements on behalf of
or in the name of the market place or
facilities. Depending on the facts and
circumstances, significant holders of
governance or other tokens, for example,
could also be considered part of the
group of persons and thus an exchange
if they can control certain aspects of it.68
67 See, e.g., Regulation ATS Adopting Release at
78052 (stating that a system that standardizes the
material terms of instruments traded on the system
will be considered to use established, nondiscretionary methods).
68 This analysis would depend on facts and
circumstances. Whether a token holder can exercise
control over a market place or facilities and be
considered part of a ‘‘group of persons’’ would
depend, for example, on the number of total token
holders, or, if a holder’s votes are weighted
proportionally to the size of their holdings of
tokens, the size of their holdings, as well as what
parameters the governance tokens are set to control
(e.g., fundamental operational decisions, strategic
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Generally, an entity that engages a
service provider or vendor to operate a
market place or facilities for bringing
together buyers and sellers of securities
directs, manages, and oversees the
activities of the service provider or
vendor. In this instance, the entity, not
the service provider or vendor, controls
the market place or facilities, and the
entity is responsible for compliance
with federal securities laws. In certain
circumstances, however, a service
provider or vendor could exercise
control, or share control, over aspects of
the market place or facilities along with
the entity that procured the service
provider or vendor. In that case, the
service provider or vendor would be
considered a person within a group of
persons that constitutes, maintains, or
provides the market place or facilities
for bringing together buyers and sellers
of securities.69
The group of persons that constitutes,
maintains, or provides a market place or
facilities for bringing together buyers
and sellers of securities or performs
with respect to securities the functions
commonly performed by a stock
exchange, and is thus an exchange,
would collectively have the
responsibility for compliance with
federal securities laws. A group of
persons must consider how they will
comply with the Exchange Act
registration requirements given their
activities, which can include, but are
not limited to, designating a member of
the group,70 to register the group or
forming an organization to register as an
exchange or, to operate as an ATS,
registering as a broker-dealer and
becoming a member of Financial
Industry Regulatory Authority
(‘‘FINRA’’) to ensure compliance with
the requirements of the Exchange Act,
Commission rules, and FINRA rules.71
direction of the company, budgetary decisions, and
ability to change the underlying code), among other
things.
69 See Proposing Release at 15548. This would not
encompass purely administrative items, such as
human resources support, or basic overhead items,
such as phone services, electricity, and other
utilities. In the Proposing Release, the Commission
recognized that an ATS may engage an entity other
than the broker-dealer operator to perform an
operation or function of the ATS or a subscriber
may be directed to use an entity to access a service
of the ATS, such as order entry, disseminating
market data, or display, for example. See Proposing
Release at 15548. In such instances, the ATS must
ensure that the entity performing the ATS function
complies with Regulation ATS with respect to the
ATS activities performed. See id.
70 The group of persons would be collectively
responsible for ensuring that the designated
member of the group fulfills its regulatory
responsibilities.
71 An ATS that complies with Regulation ATS
and registers as a broker-dealer would be required
to, among other things, comply with the anti-money
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29455
5. Group of Persons and So-Called
‘‘DeFi’’ Systems
One commenter states users of what it
characterizes as ‘‘DeFi’’ protocols
should not be considered part of a group
of persons as they act independently of
each other.72 The commenter states that
developers and users of ‘‘DeFi’’
protocols would not qualify as a ‘‘group
of persons’’ because the developers have
no ongoing relationship with either
market participants or other financial
providers and merely make tools
available for parties to communicate,
and users are acting independently of
each other.73 Another commenter
describes that the ‘‘DeFi protocols’’
deploying AMM functionality rely on
many distinct groups or participants,
which may not be ‘‘affiliated or
extrinsically coordinated’’ with one
another.74
Trading on so-called ‘‘DeFi’’ systems
can involve multiple actors. These
actors can include, for example, the
provider(s) of the DeFi application or
user interface, developers of AMMs or
other DLT code, decentralized
autonomous organizations (‘‘DAO’’),
laundering and countering the financing of
terrorism (AML/CFT) obligations under the Bank
Secrecy Act. 31 CFR 1023.210; 31 CFR 1023.320.
The Bank Secrecy Act is codified at 31 U.S.C. 5311–
5314; 5316–5332 and 12 U.S.C. 1829b, 1951–1959.
Additionally, sections 5(a) and 5(c) of the Securities
Act of 1933 (‘‘Securities Act’’) generally prohibit
any person, including broker-dealers, from selling
a security unless a registration statement is in effect
or has been filed with the Commission as to the
offer and sale of such security. See 15 U.S.C. 77e(a)
and (c). A New Rule 3b–16(a) System that operates
as an ATS, which is a registered broker-dealer,
could be subject to liability under section 5 of the
Securities Act for facilitating the sale of a security
by its customer on the ATS if the sale of such
security is not registered or an exemption from the
registration provisions does not apply. Section
4(a)(4) of the Securities Act provides an exemption
for ‘‘brokers’ transactions, executed upon
customers’ orders on any exchange or in the overthe-counter market but not the solicitation of such
orders.’’ See 15 U.S.C. 77d(a)(4). To rely on this
exemption, a broker-dealer is required to conduct
a ‘‘reasonable inquiry’’ into the facts surrounding a
proposed unregistered sale of securities before
selling the securities to form reasonable grounds for
believing that a selling customer’s part of the
transaction is exempt from section 5 of the
Securities Act. The Commission has stated that
broker-dealers ‘‘have a responsibility to be aware of
the requirements necessary to establish an
exemption from the registration requirements of the
Securities Act and should be reasonably certain
such an exemption is available.’’ In the Matter of
World Trade Financial Corp., Securities Exchange
Act Release No. 66114, 13 (Jan. 6, 2012) (quoting
Stone Summers & Co., Securities Exchange Act
Release No. 9839, 3 (Nov. 3, 1972)).
72 See DeFi Education Fund Letter at 15.
73 See id.
74 See Delphi Digital Letter at 9 (describing that
‘‘[t]hey do not co-own assets or operate a single
enterprise for profit, do not know each other’s
identities, and have diverse (and often competing)
motivations’’).
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validators or miners,75 and issuers or
holders of governance or other tokens.
Often, a single organization constitutes,
maintains, or provides a DLT-based
market place or facilities for bringing
together buyers and sellers of securities
or performs with respect to securities
the functions commonly performed by a
stock exchange; however, a group of
persons can likewise do so. As indicated
above, one possible avenue for
determining which persons comprise a
group of persons can include whether
such persons act in concert to establish,
provide, or maintain a market place or
facilities for securities or to perform
with respect to securities the functions
commonly performed by a stock
exchange, or exercise control, or share
control, over aspects of the market place
or facilities or the performance of
functions commonly performed by a
stock exchange.76 These actors can form
a group of persons if they act in concert
to perform, or exercise control or share
control over, different functions of a
market place or facilities for bringing
together buyers and sellers of securities
that, taken together, satisfy the elements
of existing Exchange Act Rule 3b–16(a)
or Rule 3b–16(a), as proposed to be
amended.
As discussed above, in assessing
whether a person would be acting in
concert with a group of persons, one
factor to consider, depending on other
facts and circumstances, would be the
extent to which a person acts with an
agreement (formal or informal) to
perform a function of a market place or
facilities for bringing together buyers
and sellers of securities.77 A software
developer who, acting independently
and separate from an organization,
publishes or republishes code without
any agreement (formal or informal) with
any person for that code to be used for
a function of a market place or facilities
for bringing together buyers and sellers
of securities may be less likely to be
acting in concert to provide a market
place or facilities for bringing together
buyers and sellers.78 This could be the
75 Validators and miners verify transactions on
the underlying blockchain and the function they
perform is not only with respect to a particular
trading system. Validators and miners use a
consensus mechanism (e.g., proof-of-stake or proofof-work) to verify and add transactions to a
distributed ledger in exchange for crypto assets. See
Crypto-Assets Treasury Report at 11–12.
76 See supra note 66.
77 See supra section II.B.4.
78 See, e.g., LeXpunK Letter at 15 (requesting that
the Commission clarify that persons who ‘‘write
and publish smart contract code as a hobby or
business, whether to an open-source repository
otherwise, and may not otherwise be subject to the
jurisdiction of the U.S.’’ are not intended to be
captured by the Proposed Rules). If a software
developer receives compensation for publishing,
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case even if the software developer’s
code is subsequently adopted and
implemented into a market place or
facilities for securities by an unrelated
person. Whether the activities of actors
amount to a group of persons requires
an analysis of the totality of facts and
circumstances and the activities of each
actor. If the activities of any
combination of actors constitute,
maintain, or provide, together, a market
place or facilities for bringing together
buyers and sellers for securities or
perform with respect to securities a
function commonly performed by a
stock exchange, they could today be
considered a group of persons and thus
an exchange under section 3(a)(1) of the
Exchange Act and Rule 3b–16
thereunder and therefore be required to
register as an exchange under section 5
of the Exchange Act.79
One commenter states that attributing
the function of constituting,
maintaining, or providing an exchange
to persons who initially created or
deployed the system’s code may not be
practicable or advance the
Commission’s policy objectives because
according to the commenter, the system,
once deployed, typically cannot be
significantly altered or controlled by
any such persons.80 A smart contract
deployed to, and run on, a blockchain
is typically accompanied by other
independently from an organization, code for a
trading facility to match orders or a protocol for
buyers and sellers to negotiate a trade, the software
developer could be acting in concert with a group
of persons to provide a market place or facilities for
bringing together buyers and sellers.
79 See, e.g., Regulation ATS Adopting Release at
70852 (‘‘[I]f an organization arranges for separate
entities to provide different pieces of a trading
system, which together meet the definition
contained in paragraph (a) of Rule 3b–16, the
organization responsible for arranging the collective
efforts will be deemed to have established a trading
facility.’’). See also Proposing Release at 15506
(stating the proposed change to use the phrase
‘‘makes available’’ is intended to make clear that,
in the event that a party other than the organization,
association, or group of persons performs a function
of the exchange, the function performed by that
party would still be captured for purposes of
determining the scope of the exchange under
Exchange Act Rule 3b–16). The Proposing Release
also stated that, ‘‘[d]epending on the activities of
the persons involved with the market place, a group
of persons, who may each perform a part of the 3b–
16 system, can together provide, constitute, or
maintain a market place or facilities for bringing
together purchasers and sellers of securities and
together meet the definition of exchange. In such a
case, the group of persons would have the
regulatory responsibility for the exchange.’’ See id.
at 15506 n.109. See also infra notes 101–103 and
accompanying text.
80 See Coinbase Letter at 6. Likewise, some
commenters state that software developers cannot
modify or control the code they have developed
after it is launched. See Delphi Digital Letter at 8–
9; Blockchain Association/DeFi Education Fund
Letter at 5; DeFi Education Fund Letter at 11;
Stinson Letter; Letter from Roman Scher, dated Apr.
18, 2022.
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functionality to bring together buyers
and sellers of securities (e.g., a user
interface or website), and these
functionalities can be provided and
maintained by more than one party. If,
for example, an organization deploys a
smart contract that the organization
cannot significantly alter or control but
constitutes a market place for securities
under existing Exchange Act Rule 3b–16
or Rule 3b–16, as proposed to be
amended, then that organization would
be an exchange and would be
responsible for compliance with federal
securities laws for that market place.81
Given that such a market place could be
publicly available to bring together
buyers and sellers of securities,
requiring the organization to be
responsible in this case would advance
the Commission’s policy objectives by
ensuring the exchange complies with
federal securities laws and regulations,
including, among other things, the
oversight, investor protection, and fair
and orderly market principles
applicable to registered exchanges and
ATSs.
6. Feasibility of Compliance With
Exchange Regulatory Requirements
Some commenters state that so-called
‘‘DeFi’’ trading systems may have
difficulty complying with certain
exchange regulatory requirements.82 For
example, one commenter states it is
unclear that any party would have the
necessary information to comply with
Regulation ATS.83 In addition, some
commenters question how DeFi trading
systems would comply with brokerdealer requirements.84
The investor protection, fair and
orderly markets, transparency, and
oversight benefits of the federal
securities laws are just as relevant to a
system that uses DLT and meets the
existing criteria of Exchange Act Rule
81 See also supra 78 and accompanying text
(discussing ‘‘group of persons’’ involving a software
developer acting independently and separate from
an organization).
82 See, e.g., a16z Letter at 3; CoinList Letter at 2;
GDCA Letter II at 8, 10.
83 See a16z Letter at 15 (stating that there is no
central operator of a DeFi exchange that could
complete Form ATS or comply with periodic
reporting requirements and that those who make
available AMMs cannot identify, track the orders of,
or report to the Commission information about
users).
84 See, e.g., GDCA Letter II at 8; Blockchain
Association Letter II at 8; Letter from Lilya Tessler,
Founder and Co-Chair, Digital Asset Regulatory &
Legal Alliance, Kristin Boggiano, Founder and CoChair, Digital Asset Regulatory & Legal Alliance,
Lee Schneider, Co-Founder, Global Blockchain
Convergence, Cathy Yoon, Co-Founder, Global
Blockchain Convergence, Renata Szkoda,
Chairwoman, Global Digital Asset & Cryptocurrency
Association, dated Apr. 14, 2022 (‘‘DARLA, GBC,
and Global DCA Letter’’) at 9.
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3b–16 and Rule 3b–16, as proposed to
be amended, as to any other system that
meets the criteria under the exchange
definition. From the Commission’s
experience, systems that currently are
registered as national securities
exchanges or comply with the
conditions of Regulation ATS differ
with respect to structure, participants,
and established, non-discretionary
methods and apply many assorted
technologies to bring together buyers
and sellers of various types of securities.
The federal securities laws apply
equally to systems that trade securities,
use DLT, and meet the criteria of Rule
3b–16 as to any other exchange. The
federal securities laws are flexible and
the use of DLT, or any other technology,
does not make compliance incompatible
with the federal securities laws.85
One commenter states that ‘‘many
Communication Protocol Systems are
neither ‘brokers’ nor ‘dealers’ as defined
by the Exchange Act because they do
not effect securities transactions,’’
which the commenter equates to ‘‘order
execution,’’ and ‘‘do not engage in the
business of buying and selling
securities.’’ 86 The commenter states
accordingly that the option to qualify as
an ATS is not available for
Communication Protocol Systems under
current law, as only a registered brokerdealer may qualify as an ATS.87
Regulation ATS establishes a
regulatory framework for ATSs. An ATS
meets the definition of ‘‘exchange’’
under existing Exchange Act Rule 3b–
16(a) and Exchange Act Rule 3b–16(a),
as proposed to be amended, but is not
required to register as a national
securities exchange if the ATS complies
with the conditions of Regulation ATS,
which include registering as a brokerdealer. Section 3(a)(4)(A) of the
Exchange Act defines ‘‘broker’’ as ‘‘any
person engaged in the business of
effecting transactions in securities for
the accounts of others.’’ 88 The question
85 See DAO 21(a) Report (stating that ‘‘the
automation of certain functions through [distributed
ledger or blockchain] technology ‘smart contracts,’
or computer code, does not remove conduct from
the purview of the U.S. federal securities laws’’ and
that the requirements of the U.S. federal securities
laws ‘‘apply to those who offer and sell securities
in the United States, regardless whether the issuing
entity is a traditional company or a decentralized
autonomous organization, regardless whether those
securities are purchased using U.S. dollars or
virtual currencies and regardless whether they are
distributed in certificated form or through
distributed ledger technology’’).
86 See GDCA Letter II at 11–13.
87 See id.
88 15 U.S.C. 78c(a)(4)(A). Section 3(a)(5)(A)
defines ‘‘dealer’’ as any person engaged in the
business of buying and selling securities, with
certain exceptions, for such person’s own account
through a broker or otherwise. 15 U.S.C.
78c(a)(5)(A).
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of whether a person is a broker within
the meaning of section 3(a)(4) turns on
the facts and circumstances of the
matter. Under section 3(a)(4)(A), the
terms ‘‘engaged in the business’’ and
‘‘effecting transactions’’ are not defined
by statute; however, effecting
transactions in securities includes more
than just executing trades or forwarding
securities orders to a broker-dealer for
execution.89 In particular, the
Commission stated that effecting
securities transactions can include
participating in the transactions through
routing or matching orders, or
facilitating the execution of a securities
transaction.90 In addition, courts have
stated that a person may be found to be
acting as a ‘‘broker’’ if the person
participates in securities transactions
‘‘at key points in the chain of
distribution.’’ 91 Accordingly, the
Commission believes that a New Rule
3b–16(a) System that seeks to operate as
an ATS could register as a broker-dealer.
Given that the Proposing Release
applies to New Rule 3b–16(a) Systems
that use DLT, the Commission seeks
responses to the following questions:
4. Which, if any, activities performed
on so-called ‘‘DeFi’’ trading systems
meet the criteria of Rule 3b–16(a), as
proposed to be amended? For example,
does the use of AMMs alone bring
together multiple buyers and sellers of
89 See Securities Exchange Act Release No. 44291
(May 11, 2001), 66 FR 27760, 27772–73 (May 18,
2001) (stating that effecting securities transactions
can include participating in the transactions
through (1) identifying potential purchasers of
securities; (2) screening potential participants in a
transaction for creditworthiness; (3) soliciting
securities transactions; (4) routing or matching
orders, or facilitating the execution of a securities
transaction; (5) handling customer funds and
securities; and (6) preparing and sending
transaction confirmations (other than on behalf of
a broker-dealer that executes the trades). Further,
the Commission stated in the Regulation ATS
Adopting Release that a trading system that falls
within the Commission’s interpretation of
‘‘exchange’’ in Rule 3b–16 will still be considered
an ‘‘exchange’’ even if it matches two trades and
routes them to another system or exchange for
execution and that whether or not the actual
execution of the order takes place on the system is
not a determining factor of whether the system falls
under Exchange Act Rule 3b–16. See Regulation
ATS Adopting Release at 70852.
90 See Securities Exchange Act Release No. 44291
(May 11, 2001), 66 FR 27760, 27772–73 (May 18,
2001).
91 See Mass. Fin. Serv., Inc. v. Sec. Inv. Prot.
Corp., 411 F. Supp. 411, 415 (D. Mass. 1976), aff’d
545 F.2d 754 (1st Cir. 1976). See also SEC v. Nat’l
Exec. Planners, Ltd., 503 F. Supp. 1066, 1073
(M.D.N.C. 1980). Courts have also stated that in
determining whether a person has acted as a broker,
several factors are considered, including ‘‘whether
the person: (1) actively solicited investors; (2)
advised investors as to the merits of an investment;
(3) acted with a ‘certain regularity of participation
in securities transactions;’ and (4) received
commissions or transaction-based remuneration.’’
See, e.g., SEC v. U.S. Pension Trust Corp., 2010 WL
3894082, *20–21 (S.D. Fla. 2010).
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29457
securities through the use of non-firm
trading interest? Please explain. Please
identify any relevant data, literature, or
other information that could assist the
Commission in analyzing this issue.
5. Please give examples of New Rule
3b–16(a) Systems for crypto asset
securities that use DLT or are so-called
‘‘DeFi’’ systems. Approximately how
many such systems exist? Please
identify the types of non-firm trading
interest used and how participants use
non-firm trading interest on such
systems. Please explain what these
systems trade (crypto asset securities or
crypto assets) and the type of
participants (e.g., retail or institutional).
How do participants on a New Rule 3b–
16(a) System for crypto asset securities
that use ‘‘DeFi’’ systems, as
characterized by commenters, negotiate
trades for crypto asset securities? Please
identify any relevant data, literature, or
other information that could assist the
Commission in analyzing these issues.
6. Would an organization, association,
or group of persons that is a New Rule
3b–16(a) System and uses DLT to trade
crypto asset securities likely elect to
register as a national securities exchange
or comply with the conditions of
Regulation ATS? Please explain.
7. What are common characteristics of
New Rule 3b–16(a) Systems for crypto
asset securities that use DLT? Further,
what are common characteristics of New
Rule 3b–16(a) Systems for crypto asset
securities described as ‘‘DeFi’’ trading
systems? Are there any characteristics
that heighten the need for investor
protection and market integrity under
the exchange regulatory framework?
8. What are the various governance
structures (e.g., the role of governance
token issuers or holders or of DAOs) of
trading systems that use DLT and how
can such structures administer
regulatory programs or respond to
regulatory oversight regarding activities
on the system? What activities do
governance token issuers or holders or
DAOs undertake regarding the
governance and operation of trading
systems that use DLT? Is there any
concentration in voting and if so, how
does that arise? Are voting rights of
governance tokens or DAOs capable of
being assigned or delegated and, if so,
how is that done? How are changes to
trading systems that use DLT effected
and how are changes proposed to
holders of voting rights under
governance tokens or DAOs? Under
what circumstances should governance
or other token issuers or holders or
DAOs be responsible for an exchange’s
regulatory compliance?
9. As noted in the above requests for
comment in this section, the
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Commission seeks additional data and
other information about the use of DLT
as it relates to New Rule 3b–16(a)
Systems. Please provide any such data,
literature, or other information about the
topics noted above or any other issue
that would be relevant to the
Commission’s analysis of the Proposed
Rules.
III. Proposed Amendments to Exchange
Act Rule 3b–16 Generally
lotter on DSK11XQN23PROD with PROPOSALS3
A. Performs Functions Commonly
Performed by a Stock Exchange
Some commenters state that the
Proposing Release did not demonstrate
that systems that offer the use of nonfirm trading interest and provide nondiscretionary protocols ‘‘perform[] with
respect to securities the functions
commonly performed by a stock
exchange as that term is generally
understood,’’ and assert that such a
finding is required under the statutory
definition of ‘‘exchange’’ under section
3(a)(1) of the Exchange Act.92 In
addition, some commenters state that
systems that offer the use of non-firm
trading interest and provide nondiscretionary protocols to bring together
buyers and sellers of securities do not
perform functions commonly performed
by a stock exchange, as that term is
generally understood.93
The statutory definition of
‘‘exchange’’ is written in the disjunctive:
‘‘a market place or facilities for bringing
together purchasers and sellers of
securities or for otherwise performing
with respect to securities the functions
commonly performed by a stock
exchange as that term is generally
understood’’ (emphasis added).94 Thus,
92 See, e.g., ConsenSys Letter at 14–15; DeFi
Education Letter at 13; Coinbase Letter at 3 n.9. One
of the commenters also states that in the Regulation
ATS Adopting Release, the Commission assumed
that to meet the statutory definition, the system
must be ‘‘generally understood’’ to be performing
stock exchange functions and ‘‘anchored’’ that
rulemaking explicitly within the statutory
definition. See Coinbase Letter at 3 n.10. In
addition, a commenter opines that ‘‘[m]erely
indicating a possible interest in buying or selling a
security without mentioning the quantity or pricing
terms that would otherwise characterize an order
would allow the Commission to deem a platform an
exchange despite it not ‘performing with respect to
securities the functions commonly performed by a
stock exchange.’’’ Blockchain Association Letter II
at 4.
93 See, e.g., Coinbase Letter at 3; ConsenSys Letter
at 13–14; DARLA, GBC, and Global DCA Letter at
3–6; Letter from Gregory Babyak, Global Head of
Regulatory Affairs and Gary Stone, Regulatory
Analyst and Market Structure Strategist, Bloomberg
L.P., dated Apr. 18, 2022 (‘‘Bloomberg Letter I’’) at
22.
94 See 15 U.S.C. 78c(a)(1); Regulation ATS
Adopting Release at 70900 n.544 (stating ‘‘the
statutory definition of ‘exchange’ is written in the
disjunctive’’). Section 3(a)(1) of the Exchange Act
states that an ‘‘exchange’’ includes any
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if an organization, association, or group
of persons constitutes, maintains, or
provides a market place or facilities for
bringing together purchasers and sellers
of securities, it would be an ‘‘exchange’’;
it need not be demonstrated that the
organization, association, or group of
persons also performs functions
commonly performed by a stock
exchange as that term is generally
understood. As discussed in the
Proposing Release, systems today that
offer the use of non-firm trading interest
and provide non-discretionary protocols
can constitute, maintain, or provide a
market place or facilities for bringing
together buyers and sellers of securities
and meet the criteria of Exchange Act
3b–16 as proposed to be amended.95
B. Makes Available Non-Discretionary
Methods
In the Proposing Release, the
Commission proposed to amend
Exchange Act Rule 3b–16(a) to provide
that an organization, association, or
group of persons would be considered
to constitute, maintain, or provide an
exchange if it: brings together buyers
and sellers of securities using trading
interest; and makes available
established, non-discretionary methods
(whether by providing a trading facility
or communication protocols, or by
setting rules) under which buyers and
sellers can interact and agree to the
terms of a trade. The Commission
proposed, among other changes, to
replace the term ‘‘uses’’ with the term
‘‘makes available’’ in 17 CFR 240.3b–
16(a)(2) (‘‘Rule 3b–16(a)(2)’’),96 and to
add ‘‘communication protocols’’ as an
example of an established, nondiscretionary method that an
organization, association, or group of
persons can provide to bring together
buyers and sellers of securities.97 The
Commission received comment on the
application of these proposed changes
to all securities, including comments
requesting the Commission to provide
further consideration and opportunity
organization, association, or group of persons that
constitutes, maintains, or provides a market place
or facilities for bringing together purchasers and
sellers of securities or for otherwise performing
with respect to securities the functions commonly
performed by a stock exchange as that term is
generally understood. Functions commonly
performed by a stock exchange as that term is
generally understood include, among other things,
SRO functions and the listing of securities, by, for
example, establishing or enforcing qualitative or
quantitative listing standards. See Regulation ATS
Adopting Release at 70880 (stating that ‘‘[r]egistered
exchanges are able to establish listing standards,
which may promote investor confidence in the
quality of the securities traded on the exchange’’).
95 See Proposing Release at section II.C.
96 See id. at 15506.
97 See id. at 15506–07.
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for comments before adopting the
proposed changes.98 The Commission is
now soliciting further comment on
certain Proposed Rules.
In the Proposing Release, the
Commission discussed two reasons it
proposed to replace ‘‘uses established,
non-discretionary methods’’ with the
phrase ‘‘makes available established,
non-discretionary methods.’’ First, the
Commission stated that the proposed
change to use the term ‘‘makes
available’’ rather than ‘‘uses’’ is
designed to capture established, nondiscretionary methods that an
organization, association, or group of
persons may provide, whether directly
or indirectly, for buyers and sellers to
interact and agree upon terms of a
trade.99 Unlike systems that ‘‘use’’
established non-discretionary methods
to match buyers and sellers,
communication protocols systems offer
a different method for bringing together
buyers and sellers by providing
protocols that allow participants to
interact, negotiate, and come to an
agreement.100
Second, the term ‘‘makes available’’
was intended to make clear that, in the
event that a party other than the
organization, association, or group of
persons performs a function of the
exchange, the function performed by
that party would still be captured for
purposes of determining the scope of
the exchange under Exchange Act Rule
3b–16.101 The Commission has
previously stated that it will attribute
the activities of a trading facility to a
system if that facility is offered by the
system directly or indirectly (such as
where a system arranges for a third
party or parties to offer the trading
facility).102 The Commission also
recognized how a system may consist of
various functionalities, mechanisms, or
protocols that operate collectively to
bring together the orders for securities of
multiple buyers and sellers using nondiscretionary methods under the criteria
of Rule 3b–16(a), and how, in some
circumstances, these various
functionalities, mechanisms, or
protocols may be offered or performed
by another business unit of the brokerdealer operator or by a separate
entity.103 The Commission stated that
these principles apply equally to an
organization, association, or group of
persons that arranged with another
98 See Bloomberg Letter I at 13–15; SIFMA Letter
II at 7.
99 See Proposing Release at 15506.
100 See id.
101 See id.
102 See id. (citing Regulation ATS Adopting
Release at 70852).
103 See id.
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party to provide, for example, a trading
facility or communication protocols, or
parts thereof, to bring together buyers
and sellers and perform a function of a
system under Rule 3b–16.104 Consistent
with the principles in the Regulation
ATS Adopting Release, the term ‘‘makes
available’’ would help ensure that the
investor protection and fair and orderly
markets provisions of the exchange
regulatory framework apply to the
activities performed through all
functionalities, mechanisms, or
protocols of a market place that meet the
criteria of Rule 3b–16(a),
notwithstanding whether those
activities are performed by a party other
than the organization that provides the
market place.105
Commenters state that the proposed
use of the term ‘‘makes available’’
would extend the scope of the exchange
definition to a broad set of entities that
provide services to a system and its
participants and potentially create
uncertainty and ambiguity.106 One
commenter states that the Proposing
Release opens up the possibility that
systems interacting with the ATS are
themselves separate exchanges and
questions when two or more unrelated
entities might be viewed as collectively
providing the services of an
exchange.107 One commenter expresses
concern that the Proposed Rules would
broaden the definition of ‘‘exchange’’ to
include entities that do not themselves
take an active role in matching orders
but instead contribute in some manner
to the efforts of buyers and sellers to
identify each other and arrange trades,
and that anyone who contributes to the
existence of trading protocols could be
considered to make them available.108
Another commenter states that the
Proposed Rules do not address ‘‘open104 See
id.
id. See also Regulation ATS Adopting
Release at 70851–52.
106 See, e.g., Letter from Gregory Babyak and Gary
Stone, Regulatory Affairs, Bloomberg L.P., dated
Sept. 16, 2022 (‘‘Bloomberg Letter II’’) at 2; Letter
from Elisabeth Kirby, Head of U.S. Market
Structure, Tradeweb Markets, Inc., dated Apr. 18,
2022 (‘‘Tradeweb Letter’’) at 5; Letter from Ken
McGuire, President, Aditum Alternatives & Aditum
Asset Management, dated Feb. 21, 2022 (‘‘Aditum
Letter’’) at 2; Letter from Gene Hoffman, President
& Chief Operating Officer, Chia Network, dated Apr.
16, 2022 (‘‘Chia Network Letter’’) at 4–7; DARLA,
GBC, and Global DCA Letter at 6–7; ConsenSys
Letter at 13, 16–17; Blockchain Association Letter
II at 8–9; ADAM Letter II at 8, 16; Eisenbach Letter
at 2.
107 See SIFMA Letter II at 9 n.23.
108 See ConsenSys Letter at 16–17. See also DeFi
Education Fund Letter at 9–10 (stating that
‘‘systems providing communication and other
financial technology adjacent to trading, such as
bespoke direct messaging or market information
services, could be captured under the overbroad
‘makes available’ standard’’).
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105 See
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architecture platforms that integrate
with or embed in a third-party
application’’ and asks whether such
activity would constitute making
available communication protocols.109
One commenter states that the proposed
term ‘‘makes available’’ would expand
the groups of persons subject to the
Exchange Act to include those who
expressly do not fall under the statutory
language of section 3(a)(1)—‘‘a party
other than the organization, association,
or group of persons’’ that performs a
function on the exchange.110 In
addition, one commenter states the
definition should only include entities
that make available systems ‘‘with the
intent to profit from trades to which
they are not a party’’ and exclude those
that integrate software available in the
public domain and perform the role
without a profit motive.111
Request for Comment
10. In the Regulation ATS Adopting
Release, the Commission stated that it
would ‘‘attribute the activities of a
trading facility to a system if that facility
is offered by the system directly or
indirectly (such as where a system
arranges for a third party or parties to
offer the trading facility).’’ 112 In
explaining the term ‘‘makes available’’
in the Proposing Release, the
Commission stated that it was
‘‘designed to capture established, nondiscretionary methods that an
organization, association or groups of
person may provide, whether directly or
indirectly.’’ 113 To ensure that an
exchange function performed by a party
is appropriately captured under
Exchange Act Rule 3b–16, should the
Commission adopt alternative language
to ‘‘makes available’’? Please explain.
For example, should the Commission
adopt ‘‘Uses established, nondiscretionary methods (whether by
providing, directly or indirectly, a
trading facility. . .)’’? Would the
addition of the phrase ‘‘directly or
indirectly’’ align Rule 3b–16 more
closely with prior Commission
statements in the Regulation ATS
109 See Letter from Corinna Mitchell, General
Counsel, Symphony Communication Services,
dated Apr. 18, 2022 at 4. See also DeFi Education
Fund Letter at 9–10 (stating the ‘‘makes available’’
language could subject software developers to
exchange regulation ‘‘solely on the basis of having
lines of their code subsequently used by unrelated
parties’’); Tradeweb Letter at 5 (stating that the
proposed language might affect various forms of
software tools widely used in the securities
industry).
110 See Blockchain Association Letter II at 4–5
(quoting the Proposing Release at 15506).
111 See Aditum Letter at 2.
112 See Regulation ATS Adopting Release at
70852.
113 See Proposing Release at 15506.
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29459
Adopting Release 114 and focus the rule
text on a function that a party performs
in the provision of an established, nondiscretionary method to bring together
buyers and sellers? Would the phrase
‘‘directly or indirectly’’ reduce
commenters’ concerns about the
proposed ‘‘makes available’’ language
being overbroad? Why or why not?
What, if any, limiting principles should
be applied to determining when a
person provides ‘‘directly or indirectly’’
a trading facility or communication
protocols (or ‘‘negotiation
protocols’’)? 115 Please explain.
11. The Commission proposed to
remove the term ‘‘uses’’ and insert the
term ‘‘makes available’’ before
‘‘established, non-discretionary
methods’’ because the Commission
proposed to include as an established,
non-discretionary method
communication protocols under which
buyers and sellers can interact and agree
to the terms of a trade. Communication
protocols would be in addition to a
trading facility, which is an existing
established, non-discretionary method
under existing Exchange Act Rule 3b–
16(a)(2) and is used by the provider of
the exchange to match buyers and
sellers. Instead of the terms ‘‘uses’’ and
‘‘makes available,’’ should the
Commission adopt amendments to
Exchange Act Rule 3b–16(a)(2) that state
‘‘[E]stablishes non-discretionary
methods (whether by providing, directly
or indirectly, a trading facility or . . .)’’?
The addition of the term ‘‘establishes’’
would adhere to the concept of
‘‘established’’ in existing Exchange Act
Rule 3b–16(a)(2) and be consistent with
the Commission’s explanation in the
Regulation ATS Adopting Release that
the person who establishes nondiscretionary methods is dictating the
terms of trading among buyers and
sellers on the system.116 For example,
an organization that establishes a nondiscretionary method would be
providing a trading facility or providing
communication protocols (or
‘‘negotiation protocols’’ 117) or setting
rules for buyers and sellers to interact
and agree upon the terms of a trade.
C. Non-Discretionary Method:
Communication Protocols
In the Proposed Rules, the
Commission proposed to add
‘‘communication protocols’’ to
Exchange Act Rule 3b–16(a) as a nondiscretionary method that an
114 See id. (citing Regulation ATS Adopting
Release at 70852).
115 See infra Request for Comment #13.
116 See Regulation ATS Adopting Release at
70850.
117 See infra Request for Comment #13.
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organization, association, or group of
persons could provide for buyers and
sellers to interact and agree upon the
terms of a trade.118 In the Proposing
Release, the Commission explained that
communication protocols, which can be
applied to various technologies and
connectivity, are provided along with
the use of non-firm trading interest (as
opposed to firm orders) to prompt and
guide buyers and sellers to
communicate, negotiate, and agree to
the terms of the trade.119 The
Commission also provided examples of
trading systems that function as market
places or facilities for securities by
providing communication protocols.120
The Commission provided an example
of an entity making available a chat
feature that has the additional
requirement that certain information be
included in a chat message (e.g., price,
quantity) and also setting parameters
and structure designed for participants
to communicate about buying or selling
securities as a system that would have
established communication
protocols.121 The Commission also
explained what would not be a
communication protocol system for
purposes of the Proposed Rules.122
The Commission received comment
that the term ‘‘communication protocol’’
is too broad and vague and that it is
unclear what activities or entities would
be classified as communication protocol
systems.123 Commenters suggest that the
Commission should define the term
‘‘communication protocol system’’ to
avoid uncertainty as to who is included
118 See
Proposing Release at 15507.
lotter on DSK11XQN23PROD with PROPOSALS3
119 Id.
120 See id. at 15500–01. These trading systems
could include, among others, RFQ systems, stream
axes, conditional order systems, and bilateral
negotiation systems.
121 See id. at 15507.
122 See, e.g., id. For example, the Commission
stated that it did not intend for communication
protocols to include systems that only provide the
connectivity or technology that allows buyers and
sellers to communicate (such as utilities or
providers of stand-alone electronic web chat)
without also establishing non-discretionary
methods that govern how the communications are
allowed to proceed as participants agree to the
terms of a trade. See id.
123 See, e.g., Letter from Lindsey Weber Keljo,
Head of Asset Management Group, William C.
Thum, Managing Director and Assistant General
Counsel, Securities Industry and Financial Market
Association, dated Apr. 18, 2022 (‘‘SIFMA AMG
Letter’’) at 6; Letter from Charles V. Callan,
Broadridge Financial Solutions, Inc., dated Apr. 18,
2022 (‘‘Broadridge Letter’’) at 2; Letter from Douglas
A. Cifu, Chief Executive Officer, Virtu Financial,
Inc., dated Apr. 18, 2022 (‘‘Virtu Letter’’) at 11;
Letter from Jennifer W. Han, Managed Funds
Association, dated Apr. 18, 2022 (‘‘MFA Letter’’) at
7–10; Letter from David R. Burton, Senior Fellow
in Economic Policy, The Heritage Foundation,
dated Apr. 18, 2022 (‘‘Burton Letter’’) at 2.
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or not included under its scope.124
Commenters state that the broad
concept of a communication protocol
system could capture various types of
technologies used by market places for
securities, including, for example, frontend graphical user interfaces (‘‘GUIs’’),
web chat providers,125 primary market
communication systems,126 software
solutions,127 or trading desks of a
broker-dealer.128 Commenters state that
the uncertainty could give the
impression that employing the term
expands the scope of exchange
regulation to all communication
methods.129
Request for Comment
12. In existing Exchange Act Rule 3b–
16(a)(2), non-discretionary methods
include providing a trading facility or
setting rules governing the interaction of
orders. ‘‘Trading facility’’ and ‘‘setting
rules’’ are not defined in the rule text
but are explained in the Regulation ATS
Adopting Release and the Commission
provided examples of each.130 The
Commission proposed ‘‘communication
protocols’’ as another non-discretionary
method for trading interest in the
Proposing Release. Should the
Commission adopt Exchange Act Rule
3b–16(a)(2), as proposed to be amended,
to include ‘‘communication protocols’’
as an example of a non-discretionary
method under which buyers and sellers
can interact and agree to the terms of a
trade? Why or why not? In addition to
the guidance provided in the Regulation
ATS Adopting Release, should the
Commission provide guidance on what
‘‘non-discretionary methods’’ means
under Exchange Act Rule 3b–16?
13. To reflect systems that provide
non-discretionary methods under which
124 See, e.g., Healthy Markets Letter at 6; Letter
from Scott Pintoff, General Counsel, MarketAxess,
dated Apr. 18, 2022 (‘‘MarketAxess Letter’’) at 5;
Broadridge Letter at 2; Virtu Letter at 11. Another
commenter, in expressing concern about the scope
of the Proposed Rules, describes that the Proposed
Rules did not define ‘‘communication protocol
system.’’ See McHenry/Huizenga Letter at 2.
125 See, e.g., GDCA Letter II at 9; Coin Center
Letter at 19–20.
126 See Letter from Scott Eisenberg, Head of Legal,
DirectBooks LLC, dated Apr. 18, 2022.
127 See SIFMA Letter II at 9.
128 See Letter from Christopher A. Iacovella, Chief
Executive Officer, American Securities Association,
dated Apr. 18, 2022 (‘‘ASA Letter’’) at 3.
129 See, e.g., Bloomberg Letter I at 19; Chia
Network Letter at 2 (stating that ‘‘the Commission’s
proposed amendments [put] the entire internet and
connectivity businesses in jeopardy of tripping over
the [Exchange Act]’’).
130 See Regulation ATS Adopting Release at
70851–52. The Regulation ATS Adopting Release
stated that the Commission intended for
‘‘ ‘established, non-discretionary methods’ to
include any methods that dictate the terms of
trading among the multiple buyers and sellers
entering orders into the system.’’ Id. at 70850.
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buyers and sellers negotiate terms of a
trade, should the Commission adopt
amendments to Exchange Act Rule 3b–
16(a)(2) that replace the proposed term
‘‘communication protocols’’ with the
term ‘‘negotiation protocols’’ and adopt
the following definition under a new
Rule 3b–16(f):
For purposes of this section, the term
‘‘negotiation protocols’’ means a nondiscretionary method that sets
requirements or limitations designed for
multiple buyers and sellers of securities
using trading interest to interact and
negotiate terms of a trade.
14. As discussed above, some
commenters state that the term
‘‘communication protocol’’ is too broad
and vague and that it is unclear what
activities or entities would be classified
as communication protocol systems.131
The term ‘‘negotiation protocols’’ could
better focus the non-discretionary
methods that the Commission intended
to capture in the proposed amendments
to Exchange Act 3b–16(a)(2) than the
term ‘‘communication protocols.’’ The
term ‘‘negotiation protocols’’ would be
another example, in addition to directly
or indirectly providing a trading facility
or setting rules, of a non-discretionary
method established by an exchange
under which buyers and sellers can
negotiate and agree to the terms of a
trade. What are commenters’ views of
the term ‘‘negotiation protocols’’? Are
there any terms that should be added,
deleted, or modified in the definition of
‘‘negotiation protocol’’ to make the
definition more precise or appropriate?
Are there other non-discretionary
methods under which buyers and sellers
can interact and agree to the terms of a
trade that the Commission should add
to Rule 3b–16(a)(2)? If so, please
explain. What other types of protocols
under which buyers and sellers can
interact and agree to the terms of a trade
exist or can be provided?
15. The definition of ‘‘negotiation
protocols’’ described above would set
requirements or limitations designed to
govern how the trading interest is used
by participants to interact and negotiate
a trade. Should a definition of
‘‘negotiation protocols’’ specify both
requirements and limitations that would
constitute a non-discretionary method?
Why or why not?
16. As an alternative to adopting a
definition of ‘‘negotiation protocols’’ in
the rule text, should the Commission
provide an explanation and examples of
what negotiation protocols are and are
not in any adopting release, similar to
what the Commission did in the
Regulation ATS Adopting Release when
131 See
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supra note 123.
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analyzing the application of Rule 3b–16
to hypothetical Systems A through
T? 132 In the Proposing Release, the
Commission provided examples of
trading systems that offer the use of
non-firm trading interest and
established protocols that would meet
the criteria of Exchange Act 3b–16, as
proposed to be amended (e.g., RFQ,
conditional order systems, indication of
interest systems).133 Should the
Commission adopt those examples as
hypotheticals that would meet the
criteria of Rule 3b–16 similar to the
hypotheticals in the Regulation ATS
Adopting Release? Please explain.
Should the examples that the
Commission provided in the Proposing
Release change in any way? Are there
any other examples that the
Commission should adopt to describe
New Rule 3b–16(a) Systems? Please
describe any such examples.
17. As discussed above, whether an
organization, association, or group of
persons meets the definition of an
exchange depends on the activities
performed and not the technology used.
The Commission received comments
requesting the Commission clarify that
order management systems, order
execution systems, and order execution
management systems (collectively
referred to as ‘‘OEMS’’ technology) do
not meet the criteria of Rule 3b–16, as
proposed to be amended.134 The
Commission understands that brokers,
dealers, and investment advisers use
OEMS technology to carry out their
respective Commission-regulated
activities. The proposed amendments to
Rule 3b–16 were not designed to
capture within the definition of
132 See Regulation ATS Adopting Release at
70854–56.
133 See Proposing Release at 15500–01.
134 See Bloomberg Letter I at 16; SIFMA AMG
Letter at 11; Broadridge Letter at 3; MFA Letter at
9; Letter from Kelvin To, Founder and President,
Data Boiler Technologies, LLC, dated Apr. 18, 2022
at 9. Several commenters express general concerns
about and set forth policy arguments against
including OEMSs within the Commission’s
exchange regulation. See, e.g., SIFMA AMG Letter
at 6 (asserting that ‘‘the Commission’s drafting risks
moving too far beyond trading venues and is
potentially capturing a broad range of OEMS, ETF
portal, and single user systems carefully developed
by a diverse group of market participants to
introduce efficiencies and costs savings into the
market, but which do not allow for separate users
to interact and do not directly connect with
multiple brokers to confirm the non-discretionary
execution of orders’’); Letter from Sarah Bessin,
Associate General Counsel, Investment Company
Institute, dated Apr. 18, 2022 (‘‘ICI Letter’’) at 9
(arguing that there are no perceived regulatory
benefits from applying the ATS or broker-dealer
regulatory framework to internalized trading
activity on OEMSs, which is independently
regulated, and stating that it may ‘‘frustrate
advisers’ ability to seek best execution on behalf of
their clients’’).
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exchange the activities of brokers,
dealers, and investment advisers who
use an OEMS to carry out their
functions (e.g., organizing and routing
trading interest). The use of OEMS
technology, however, like other types of
technology, could be used, in certain
circumstances, to perform exchange
activities (e.g., crossing orders of
multiple buyers and sellers using
established non-discretionary methods).
The Commission requests comment on
what activities are performed today
using OEMS technology and how the
use of OEMS technology might change
in the future. The Commission requests
comment on whether and how activities
performed through the use of OEMS
technology could meet the criteria of
Rule 3b–16(a), as proposed to be
amended. Please explain why or why
not.
18. In light of comments that the
concept of a communication protocol
system could capture various types of
technologies used by market
participants for securities (e.g., GUIs,
web chat providers, primary market
communication systems, software
solutions, or trading desks of a brokerdealer), please explain in detail and
provide examples of the specific
activities performed through the use of
such technology identified by
commenters.
19. In response to the Proposing
Release, the Commission received
several comments expressing concern
that the expansion of Exchange Act Rule
3b–16 might encompass general internet
chat services, such as WhatsApp,
Twitter, and Reddit.135 As stated in the
Proposing Release, systems that provide
general connectivity for persons to
communicate without protocols
containing requirements and limitations
to negotiate trades for securities (e.g.,
utilities or electronic web chat
providers) would not fall within the
definition of exchange, as proposed to
be amended.136 However, the
determination as to whether a given
system would meet the criteria under
Rule 3b–16(a), as proposed to be
amended, must be based on the facts
135 See, e.g., Chia Network Letter at 4–7 (stating
that the expansion to parties that ‘‘make available’’
established, non-discretionary methods could
capture large numbers of internet and
telecommunications providers, including any
company that makes any sort of messaging system
available to internet users such as Twitter and
Reddit, and creates regulatory uncertainty for all
such entities); GDCA Letter II at 10 (stating that the
term trading interest ‘‘sweeps up dialogue that
otherwise would be outside the rules,’’ such as
‘‘ ‘inadvertent’ or ‘incidental’ exchange activity’’
through protocols ‘‘with a primary social or
business use unrelated to trading’’ that are ‘‘used
secondarily or incidentally for trading’’).
136 See Proposing Release at 15502 n.72.
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and circumstances surrounding the
operation of the system, not the market
name or categorization (i.e., simply
because a program is called a ‘‘chat’’ or
‘‘messaging’’ service, it does not mean
the service is per se outside the scope
of Rule 3b–16(a), as proposed to be
amended). For example, if a chat or
messaging service was provided with a
display functionality for trading interest
in securities, an execution facility for
securities, or protocols for participants
to negotiate, the mere fact that the
system contains a chat feature or
message service would not necessarily
preclude it from meeting the criteria of
Rule 3b–16 as proposed to be amended.
What features of a chat or message
service could be considered protocols
(i.e., requirements or limitations) under
Rule 3b–16, as proposed to be amended,
that would allow buyers and sellers to
interact and negotiate a trade for
securities? Are there currently any types
of chat services that are solely used for
discussing securities but are not used
for negotiating a securities trade? Are
there any types of chat services that are
currently designed for buyers and
sellers to interact and negotiate a trade
for securities? Please explain why or
why not.
20. Do commenters believe that there
are other technologies, such as social
networking websites, business
communication platforms, financial
information systems, blockchain
technology nodes and smart contracting
platforms,137 that could be used to
perform activities that meet the criteria
of Exchange Act Rule 3b–16(a), as
proposed to be amended? Are there any
features of these systems that could be
considered protocols (i.e., requirements
or limitations) that allow buyers and
sellers to interact and negotiate a trade
for securities? Please explain.
21. Form ATS is designed to enable
the Commission to determine whether
an ATS subject to Regulation ATS is in
compliance with Regulation ATS and
other federal securities laws.138 Form
ATS provides disclosures about, among
other things, classes of subscribers,
securities traded, manner of operation,
and procedures governing the
execution, reporting, clearance, and
settlement of transactions. Proposed
Item 3(c) of Form ATS (current Form
ATS Exhibit B) requires an ATS to
disclose a list of securities the ATS
trades or expects to trade, and requires
disclosure of all securities, which
includes crypto asset securities.139
137 See
infra note 278.
Form ATS Instruction A.6.
139 See Proposing Release at 15653.
138 See
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22. Form ATS–N is designed to
provide market participants with
information to, among other things, help
them make informed decisions about
whether to participate on an NMS Stock
ATS (and, as proposed, on a
Government Securities ATS).140
Proposed Part I, Item 8 of Form ATS–
N would require an NMS Stock ATS or
Government Securities ATS to disclose
information about the NMS stocks and
government securities that it makes
available for trading, which would
include any NMS stocks or government
securities that are crypto asset
securities.141 Should the Commission
adopt an amendment to proposed Item
3(c) of Form ATS or proposed Part I,
Item 8 of Form ATS–N to require ATSs
and NMS Stock ATSs and Government
Securities ATSs to specifically identify
the securities that are crypto asset
securities? Why or why not? Should the
Commission make any other changes to
Form ATS and Form ATS–N in light of
the Proposing Release and the
information provided in this Reopening
Release?
23. Form ATS–R, which is filed on a
quarterly basis and deemed confidential
when filed, is designed to enable the
Commission to more effectively track
the growth and development of ATSs, as
well as to more effectively comply with
its statutory obligations with respect to
ATSs, and improve investor
protection.142 Among other things, Form
ATS–R requires ATSs to list all
securities that were traded on the ATS
at any time during the period covered
by the report 143 and to report total unit
and dollar volume of transactions for
certain categories of securities.144
Should Form ATS–R be amended to
require ATSs to indicate whether any of
the types of securities traded on the
ATS are crypto asset securities? For
example, should Form ATS–R include a
checkbox for each type of security listed
on Form ATS–R for the ATS to indicate
140 See
Form ATS–N Instruction D.
Proposing Release at 15542.
142 See Form ATS–R Instruction A.7.
143 See Form ATS–R Item 3. Form ATS–R also
requires a list of all subscribers that were
participants of the ATS during each calendar
quarter. See Form ATS–R Item 2.
144 See Form ATS–R Item 4. For example, Form
ATS–R requires NMS Stock ATSs to report the total
unit and dollar volume of transactions in NMS
stocks that are reported to the consolidated tape in
‘‘Listed Equity Securities’’ (Item 4A), ‘‘Nasdaq
National Market Securities’’ (Item 4B), or ‘‘Nasdaq
SmallCap Market Securities’’ (Item 4C). In the
Proposing Release, the Commission proposed to
delete the categories ‘‘Nasdaq National Market
Securities’’ and ‘‘Nasdaq SmallCap Market
Securities’’ and require ATSs to report the total
volume previously reported under these categories
under ‘‘Listed Equity Securities.’’ See Proposing
Release at 15580.
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141 See
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whether any of the securities transacted
are crypto asset securities? Why or why
not? Should Form ATS–R be amended
to require an ATS to report the total unit
and dollar volume of transactions in
crypto asset securities for each category
of securities? Why or why not? Should
the Commission make any other
changes to Form ATS–R in light of the
Proposing Release and the information
provided in this Reopening Release?
24. Information about a New Rule 3b–
16(a) System’s operations, including
operations related to non-firm trading
interest and protocols provided for
buyers and sellers to interact and
negotiate the terms of a trade, would be
responsive to proposed Item 3(g) of
Form ATS, which requires a description
of the manner of operation of the ATS.
To assist New Rule 3b–16(a) Systems in
responding to Form ATS, should the
Commission adopt an amendment to
proposed Item 3 of Form ATS to add the
following requirement as a disclosure:
‘‘any display of trading interest’’ and
‘‘protocols provided for buyers and
sellers to interact and negotiate the
terms of a trade’’? Please explain why or
why not. Although this information
would be responsive to current Form
ATS Item 8(a) and would be required to
be included in current Form ATS
Exhibit F, the explicit references would
make clear to ATSs that such
information is responsive to the form
and must be provided.
25. Proposed Item 3(j) of Form ATS
(current Form ATS Item 8(d), which is
required to be disclosed on Exhibit F)
would require an ATS to provide ‘‘a
description of the procedures governing
execution, reporting, clearance, and
settlement of transactions effected
through the [ATS].’’ 145 Should the
Commission adopt an amendment to the
Item to include a reference to the use of
DLT among the procedures so that the
Item would state that the ATS must
include ‘‘a description of the
procedures, including through use of
DLT, governing execution, reporting,
clearance, and settlement of transactions
effected through the alternative trading
system’’? Please explain why or why
not. Although a description of the use
of DLT, or any other technology, in
these processes is currently required by
the term ‘‘procedures,’’ the explicit
reference to DLT would make clear that
a description of its use would be
required to be provided in Form ATS.
26. As discussed above, several
commenters ask questions about how
so-called ‘‘DeFi’’ systems could comply
with the requirements of Regulation
145 See
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ATS.146 Form ATS–N, which provides
operational transparency and regulatory
oversight of NMS Stock ATSs and, as
proposed, of Government Securities
ATSs, is technology neutral and asks
questions designed to apply to ATSs
that vary in structure and offer many
different functionalities and trading
processes and procedures. However,
Form ATS–N provides examples of
specific functionalities and procedures
that would be responsive to particular
questions. To assist subject systems in
responding to Form ATS–N, should the
Commission adopt any changes,
particularly to the examples provided in
Form ATS–N, to clarify and highlight
the applicability of certain items in
Form ATS–N to NMS Stock ATSs and
Government Securities ATSs that use
DLT? Should, for example, the
Commission adopt amendments to
proposed Part II, Item 5 to provide
examples of other products and services
that the operator of a system that uses
DLT may provide for the purpose of
effecting transactions or submitting,
disseminating, or displaying trading
interest on the ATS? 147 Should the
Commission adopt amendments to Part
III, Item 5(a) to provide web-based
systems as an example of means by
which the NMS Stock ATS or
Government Securities ATS permits
trading interest to be entered directly
into the ATS? 148 Should the
Commission adopt amendments to Part
III, Item 15 to provide examples of
blockchain-based means by which
trading interest can be displayed or
made known to the ATS subscribers or
the public? 149 Should the Commission
adopt amendments to proposed Part III,
Item 21 to provide examples of
blockchain-based procedures to manage
the post-trade processing, clearance,
and/or settlement on the ATS? 150
Should the Commission adopt
amendments to proposed Part III, Item
22 to provide examples of blockchainbased market data sources? 151
D. Exclusion From Exchange Act Rule
3b–16(a)
In the Proposing Release, the
Commission proposed to amend Rule
3b–16(b) to add an exclusion from Rule
3b–16(a) for systems that allow an issuer
146 See,
e.g., supra note 55.
Proposing Release at 15546–48.
id. at 15552–53.
149 See id. at 15563–65. Such amendments could
provide examples of blockchain-based means by
which: an ATS may display trading interest to its
subscribers or the public; a subscriber can display
or make known trading interest through the ATS;
and trading interest bound for the ATS is made
known to any person. See id.
150 See id. at 15568–69.
151 See id. at 15569.
147 See
148 See
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to sell its securities to investors.152 The
Commission stated in the Proposing
Release that the exclusion was merely
codifying in Rule 3b–16(b)(3) an
example the Commission provided in
the Regulation ATS Adopting Release
for systems that have a single seller of
its securities.153 While such systems
have multiple buyers (i.e., investors),
they have only one seller for each
security (i.e., issuers) and, therefore, do
not meet the criteria of Rule 3b–16(a)
because the systems do not bring
together multiple buyers and multiple
sellers.154
One commenter states that it is
unclear whether the issuer exclusion
would cover portals on which multiple
issuers offer securities.155 Another
commenter suggests that the exclusion
for issuer systems should be revised to
state that it applies to a system that
‘‘allows one or more issuers to sell their
securities to investors, either directly or
through placement agents or
underwriters.’’ 156 This commenter
states that a system that allows more
than one issuer to sell its own securities
is a single counterparty system because
for any particular security, there is only
one counterparty, the issuer of the
securities.157 This commenter further
states that including the phrase ‘‘or
through placement agents or
underwriters’’ is needed to make clear
that the issuer exclusion may continue
to be applied if the system permits an
issuer to use brokers or underwriters,
and this approach is desirable because
it permits the interposition of registered
brokers, who provide a multitude of
services protective of the rights of
investors.158
Two commenters request that the
Commission confirm that a system or
portal that an exchange-traded fund
(‘‘ETF’’) sponsor uses to facilitate ETF
primary market operations (i.e., creation
and redemption of ETF shares) (‘‘ETF
Portal’’) is not a communication
protocol system, as defined in the
Proposing Release, and otherwise does
not meet the definition of ‘‘exchange,’’
as proposed to be amended.159 The
commenters state that ETF Portals
enable registered broker-dealers that
152 See
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153 See
proposed Rule 3b–16(b)(3).
Regulation ATS Adopting Release at
70849.
154 Id.
155 See SIFMA AMG Letter at 8.
156 See ABA Letter at 8.
157 Id. at 9.
158 Id.
159 See SIFMA AMG Letter at 8; ICI Letter at 13.
The commenters state that they do not believe that
the Commission intended to classify ETF Portals as
exchanges under Rule 3b–16, as proposed to be
amended. See id.
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serve as an ETF’s authorized
participants (‘‘APs’’) to communicate
creation or redemption requests for an
ETF.160 One of the commenters states
that ETF Portals do not create a market
place for secondary market trading
activity (i.e., trading of the actual ETF
shares among individual investors)
because they are used by ETF sponsors
for the specific purpose of creating and
redeeming their own issued
securities.161 In this respect, this
commenter believes that ETF Portals are
similar to a system that allows issuers
to sell their own securities to
investors.162 Another commenter
similarly agrees that ETF Portals should
not be included in the definition of an
‘‘exchange’’ and does not believe there
would be any public benefit to treating
such portals as exchanges and requiring
ATS registration.163
Request for Comment
27. Should the Commission adopt
Rule 3b–16(b)(3), as proposed to be
amended? Why or why not? Should the
Commission adopt the proposed Rule
3b–16(b)(3) exclusion but with certain
revisions? If so, please identify those
revisions and explain. For example,
should the Commission adopt, as
suggested by one commenter, the
proposed issuer exclusion with
revisions to state that it applies to a
system that ‘‘allows one or more issuers
to sell their securities to investors,
either directly or through placement
agents or underwriters’’? In particular,
should the Commission add ‘‘one or
more issuers’’ to the proposed issuer
exclusion? What types of systems would
be covered under the revised issuer
exclusion example above? Please
explain. Is the inclusion of ‘‘either
directly or through placement agents or
underwriters’’ in the revised issuer
exclusion example above necessary or
160 See
id.
ICI Letter at 14. This commenter also
states that an ETF Portal’s activities are limited in
the following respects: ‘‘(1) the scope of ETFs
involved in the creation or redemption process is
confined to those offered by the ETF sponsor; (2)
only registered broker-dealers that have an
established agreement with an ETF sponsor’s ETF
to act as an AP can submit creation or redemption
requests to the ETF; and (3) the system or portal
does not directly facilitate secondary market
activity in the ETF (i.e., trading of the actual ETF
shares among individual investors), nor does it
provide access for individual investors that are not
registered broker-dealers.’’ Id. at 13.
162 See id. at 14. This commenter further states
that applying the Regulation ATS and broker-dealer
regulatory frameworks to ETF Portals would impose
unnecessary additional costs and burdens to the
ETF creation and redemption process, lead to
unintended consequences, and would not further
the Commission’s regulatory objectives. See id. at 4.
163 See SIFMA AMG Letter at 8.
161 See
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appropriate to clarify its application? If
so, why?
28. How do ETF Portals operate for
the creation and redemption of
securities? Who are the participants in
ETF Portals and how do they interact?
Are there any trading activities
conducted as part of the creation and
redemption process through an ETF
Portal that are exchange activities or
necessitate further clarification by the
Commission as to whether such
activities are exchange activities? Do an
ETF Portal’s activities facilitate
secondary market activity in the ETF?
Why or why not? Does trading in ETF
Portals involve multiple buyers and
sellers of securities? Why or why not?
What non-discretionary methods are
generally used by ETF Portals?
29. Do ETF Portals fall within the
criteria of existing Exchange Act Rule
3b–16(a) or Rule 3b–16(a), as proposed
to be amended? Why or why not? If the
activities conducted through ETF
Portals fall within the criteria of existing
Exchange Act Rule 3b–16(a) or Rule 3b–
16(a), as proposed to be amended,
should the Commission adopt an
exclusion under Exchange Act Rule 3b–
16(b)(3) for ETF Portals? If yes, please
explain why and explain what the
exclusion should apply to. How should
an ETF Portal be defined for purposes
of the exclusion? For example, should
the Commission expressly adopt an
exclusion that applies only to ETF
Portals that fall within this definition:
‘‘a system that allows one or more
issuers from the same sponsoring entity
to solicit creation or redemption
requests for their own securities
submitted by authorized participants for
those securities’’? Should the
Commission adopt an exclusion that
applies only to platforms that solely
support primary market transactions in
investment company securities, where
the issuer of the security participates in
each transaction either as the sole buyer,
or as the sole seller? If so, should the
exclusion be available only for
securities issued by ETFs or also for
securities issued by other investment
companies? Should the exclusion
specify that it is available only for
transactions that take place at a price
based on the current net asset value of
the security, as required by 17 CFR
270.22c–1 (Rule 22c–1 under the
Investment Company Act of 1940)?
What ETF Portals should not be
excluded from Exchange Act Rule 3b–
16(a)? Please explain.
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E. Compliance Date for Implementation
of Proposed Amendments to Rule 3b–16
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Exchange Act Rule 3b–16, as
proposed to be amended, would require,
if adopted, New Rule 3b–16(a) Systems
to comply with federal securities laws
applicable to national securities
exchanges and ATSs. These systems
may trade securities that are crypto asset
securities, or specific types of securities,
including NMS stock, over-the-counter
(‘‘OTC’’) equity securities, corporate
bonds, municipal securities,
government securities, foreign sovereign
debt, asset-backed securities, restricted
securities, or options. New Rule 3b–
16(a) Systems provide access to
numerous and diverse market
participants (e.g., retail investors,
institutional investors, broker-dealers,
issuers) seeking to perform different
trading strategies and investment
objectives in various types of securities.
To facilitate these market participants’
trading strategies and investment
objectives, providers of these trading
systems employ assorted technology
and protocols (e.g., internet, DLT, cloud)
and apply a variety of methods to bring
together buyers and sellers in securities
(e.g., RFQ, indication of interest,
negotiation, conditional orders, bid
wanted in competition, streaming axes).
Several commenters express concern
that New Rule 3b–16(a) Systems would
not be provided enough time to comply
with their new regulatory obligations.164
As stated in the Proposing Release, the
Commission expects that many New
Rule 3b–16(a) Systems would elect to
register as broker-dealers and comply
with Regulation ATS; 165 however, they
can also elect to register as
exchanges.166 The Commission
recognizes that New Rule 3b–16(a)
Systems are operating today and would
seek to comply with the Proposed Rules
without disrupting their current
business and their participants. To
facilitate the trading system operators’
compliance with the Proposed Rules,
the Commission is soliciting further
public comment on any compliance
dates for the Proposed Rules.
164 See, e.g., MarketAxess Letter at 5; Letter from
Teana Baker-Taylor, Chief Policy Officer, Chamber
of Digital Commerce, dated Mar. 24, 2022
(‘‘Chamber Letter’’) at 5; Letter from Elisa
Hirschmann, Executive Director, Chief Compliance
Officer, BrokerTec Americas LLC, CME Group, Inc.,
dated Apr. 18, 2022 at 4; Bloomberg Letter I at 4–
5; Letter from Scot J. Halvorsen, Associate General
Counsel, Cboe Global Markets, Inc., dated Apr. 18,
2022 (‘‘Cboe Letter’’) at 2; Crypto Council Letter at
7.
165 See Proposing Release at 15502.
166 See id. at 15617–18.
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Request for Comment
30. Should the Commission adopt a
compliance date to delay
implementation for New Rule 3b–16(a)
Systems? Why or why not? Should the
Commission adopt the same compliance
date for all New Rule 3b–16(a) Systems
or different compliance dates depending
on certain factors, such as the type of
securities the system trades? Please
explain. For example, should the
Commission adopt separate compliance
dates to implement the proposed
amendments to Exchange Act Rule 3b–
16 for trading systems that trade one or
more of the following: NMS stock, OTC
equity securities, corporate bonds,
municipal securities, government
securities, foreign sovereign debt, assetbacked securities, restricted securities,
or options? Please explain.
31. As indicated above, crypto assets
generally use DLT as a method to record
ownership and transfers, and a crypto
asset that is a security is not a separate
type or category of security for purposes
of federal securities laws based solely
on the use of DLT.167 Should the
Commission adopt a separate
compliance date for New Rule 3b–16(a)
Systems that trade crypto asset
securities? 168 Please explain. If the
Commission adopts a different
compliance date for New Rule 3b–16(a)
Systems that trade crypto asset
securities, for purposes of ascribing
such compliance date, should ‘‘crypto
asset securities’’ be defined to mean
securities that are also issued and/or
transferred using distributed ledger or
blockchain technology, including, but
not limited to, so-called ‘‘virtual
currencies,’’ ‘‘coins,’’ and ‘‘tokens,’’ to
the extent they rely on cryptographic
protocols? 169 Please explain.
32. Should the Commission adopt a
uniform compliance period for all
categories of securities that is one year?
Or would a shorter or longer time period
than one year be sufficient or necessary?
If commenters believe the Commission
should adopt different compliance dates
for trading systems that trade a category
of security, what compliance date
should the Commission adopt for such
trading systems? Please explain.
33. Should the Commission adopt
different compliance dates for New Rule
3b–16(a) Systems based on the types of
167 See
supra note 27 and accompanying text.
a delayed compliance date for New Rule
3b–16(a) Systems would not impact the obligation
of systems that meet the existing criteria of Rule 3b–
16 to comply with existing rules.
169 In the past, the Commission used this
definition for ‘‘digital asset securities’’ in the
Commission Statement on Custody of Digital Asset
Securities by Special Purpose Broker-Dealers. See
supra note 26.
168 Such
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participants that trade on the system?
For example, should the Commission
adopt a delayed compliance date for
trading systems that have predominately
retail, institutional, or broker-dealer
participants? Please explain. What
compliance date should the
Commission adopt for these types of
trading systems? Please explain.
34. Should the Commission adopt
different compliance dates for New Rule
3b–16(a) Systems based on the different
means by which participants enter
trading interest into the system? For
example, should the Commission adopt
a delayed compliance date for trading
systems that perform intermediary
services, such as entering trading
interest into the trading system on
behalf of users or offering users services
other than trading? Should the
Commission adopt a delayed
compliance date for trading systems that
allow buyers and sellers to enter trading
interest into the system directly without
an intermediary? Please explain. What
compliance date should the
Commission adopt for these types of
trading systems? Please explain.
35. Should the Commission adopt
different compliance dates for New Rule
3b–16(a) Systems based on different
trading protocols that bring together
buyers and sellers to negotiate a trade?
For example, should the Commission
adopt different compliance dates for
trading systems that provide RFQs,
indications of interest, bids wanted in
competition, or streaming axes? Should
the Commission adopt a delayed
compliance date for trading systems that
use AMMs for buyers and sellers to
enter trading interest into the system
and negotiate a trade? What compliance
date should the Commission adopt for
these types of trading systems? Please
explain.
36. Should the Commission adopt
different compliance dates for New Rule
3b–16(a) Systems based on the
technology supporting its exchange
activity (e.g., internet, DLT, cloud)? For
example, should the Commission adopt
a delayed compliance date for trading
systems that use DLT to bring together
buyers and sellers using trading interest
and establish protocols that allow
participants to negotiate a trade? Please
explain. What compliance date should
the Commission adopt for these types of
trading systems? Please explain.
37. Should the Commission adopt
different compliance dates for New Rule
3b–16(a) Systems based on the volume
that trading systems transact? For
example, should the Commission adopt
a delayed compliance date for a trading
system that transacts a certain level of
dollar volume or share volume, and if
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so, what should that volume be? Should
the Commission adopt different
compliance dates for trading systems
based on all of their transaction volume
or only transaction volume in a category
of security or in a crypto asset security?
Please explain. What compliance date
should the Commission adopt for these
types of trading systems? Please explain.
38. Should the Commission adopt
different compliance dates for New Rule
3b–16(a) Systems based on a
combination of factors described above
or any other factors? Please explain.
IV. Paperwork Reduction Act
In the analysis of the proposed rule
amendments under the Paperwork
Reduction Act of 1995 (‘‘PRA’’) of the
Proposing Release, the Commission
estimated 22 Communication Protocol
Systems 170 would be impacted by the
Proposed Rules. This estimate included
systems that offer trading of OTC equity
securities and restricted securities, some
of which trade crypto asset securities.
The Commission is revising the
estimated number of trading systems
that would be impacted by the proposed
amendments to Exchange Act Rule 3b–
16 to include: (1) New Rule 3b–16(a)
Systems that trade crypto asset
securities and were not included in the
estimates in the Proposing Release, and
(2) New Rule 3b–16(a) Systems for noncrypto asset securities that have exited,
entered, or intend to enter, the market
since the Commission issued the
Proposing Release. The Commission is
not revising its estimate of the perrespondent burdens that would be
imposed by the proposed amendments
to Rule 3b–16(a). The summary of the
‘‘collection of information’’
requirements within the meaning of the
PRA and the proposed use of such
information described in the Proposing
Release are unchanged.
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A. Respondents
As discussed in the Proposing
Release,171 the Commission believes
that New Rule 3b–16(a) Systems would
likely choose to register as a brokerdealer and comply with the conditions
of Regulation ATS rather than register as
a national securities exchange because
of the lighter regulatory requirements
imposed on ATSs, as compared to
registered exchanges.172 For purposes of
170 The Proposing Release referred to systems that
would newly meet the definition of ‘‘exchange’’
under the Proposed Rules as ‘‘Communication
Protocol Systems.’’ See Proposing Release at 15496
n.5. See also id. at 15586 (estimating the total
number of Communication Protocol Systems to be
22).
171 See id. at section VII.
172 See id. at section II.D. As discussed above,
today, the Commission preliminarily believes that
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this PRA analysis, New Rule 3b–16(a)
Systems that would comply with
Regulation ATS are referred to as
‘‘Newly Designated ATSs.’’ 173 In the
Proposing Release, the Commission
estimated the total number of Newly
Designated ATSs, across all asset
classes, to be 22.174 Since issuing the
Proposing Release, the Commission has
learned, based on public sources of
information, of several trading systems
that appear to offer the use of non-firm
trading interest, provide nondiscretionary protocols, trade crypto
asset securities, and were not included
within the Commission’s initial estimate
of the number of respondents. Based on
publicly-available information, these
trading systems may meet the criteria of
Exchange Act Rule 3b–16(a) as proposed
to be amended and therefore, this PRA
analysis includes estimates of the
burdens that these systems would incur
under the Proposed Rules. Many of the
entities operating such trading systems,
however, depending on their activities
and other facts and circumstances, may
be subject to existing federal securities
laws and registration requirements,
including the requirement to register as
an exchange under existing criteria of
Rule 3b–16(a) or the requirement to
register as a broker-dealer. In this
regard, the Commission recognizes that
it may be over-estimating the number of
respondents that may be subject to the
Proposed Rules. Specifically, the
Commission is revising the estimated
total number of Newly Designated ATSs
from the 22 estimated systems in the
Proposing Release to a total of 35–46
some amount of crypto asset securities trade on
New Rule 3b–16(a) Systems. See supra note 31.
These systems are not included as estimated
respondents for the purposes of the PRA analysis
because they are already required to comply with
current applicable regulations; the proposed
amendments to Rule 3b–16 would not result in any
new burden on these systems. Rather, the PRA
analysis includes the estimated number of
respondents for which a new burden would be
imposed by the proposed amendments to Rule 3b–
16. Further, as discussed earlier in this section, the
Commission is not revising its estimate of the perrespondent burdens that would be imposed by the
proposed amendments to Rule 3b–16. The increase
in the estimate of total burdens across all
respondents is due solely to the Commission
revising its estimate of the number of respondents
to include: (1) systems that would meet the criteria
of Rule 3b–16, as proposed to be amended, and
trade crypto asset securities; and (2) systems that
would meet the criteria of Rule 3b–16, as proposed
to be amended, and trade securities that are not
crypto asset securities and have entered, intend to
enter, or exited the market since the Commission
issued the Proposing Release.
173 See supra note 170. The description of
respondents and burden estimates described in this
Reopening Release for Newly Designated ATSs
supersedes and replaces corresponding respondent
and burden estimates for Communication Protocol
Systems in the Proposing Release.
174 See Proposing Release at section VII.C.
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29465
estimated Newly Designated ATSs,175
which would include: (1) an additional
15–20 New Rule 3b–16(a) Systems that
trade crypto asset securities,176 and (2)
20–26 Newly Designated ATSs (revised
from the 22 Newly Designated ATSs
estimated in the Proposing Release),177
which has been revised to reflect New
Rule 3b–16(a) Systems for non-crypto
asset securities that have exited,
entered, or intend to enter, the market
since the Commission issued the
Proposing Release. For the purposes of
this PRA analysis, the Commission is
analyzing the burdens for an estimated
46 Newly Designated ATSs, based on
175 As discussed in the Proposing Release, some
of the estimates could change based on how the
Newly Designated ATSs structure their operations
if subject to Regulation ATS. See id. at 15586 n.749.
For example, the Commission is basing some of the
below estimates on the assumption that operators
of Newly Designated ATSs that are affiliated with
existing broker-dealers would structure their
operations so that the existing broker-dealer would
operate the ATS to avoid the costs of new brokerdealer registration. In addition, the Commission
estimates that 2 Newly Designated ATSs that trade
municipal securities or corporate debt securities
would meet the volume thresholds to satisfy the
conditions for complying with ATS-specific
systems capacity, integrity and security
recordkeeping as well as systems outages
requirements. This number is based on aggregate
data reported by broker-dealers and could vary
based on how these systems structure their
businesses.
176 The Commission received several comments
stating that the PRA analysis in the Proposing
Release underestimated or did not include systems
that trade crypto asset securities. See, e.g.,
Bloomberg Letter II at 2–3; Coin Center Letter at 25;
Coinbase Letter at 6; Crypto Council Letter at 4–7.
One commenter states that the Commission did not
include approximately 288 crypto ‘‘exchanges,’’ 200
crypto AMMs, and 9 front-end platforms that offer
liquidity aggregation and (smart) order routing
functionality. See Bloomberg Letter II at 2–3. It is
not clear from the comment letter whether these
systems operate in the U.S., use non-firm trading
interest, and provide non-discretionary protocols to
bring together buyers and sellers to negotiate, and
thus would be New Rule 3b–16(a) Systems and
subject to the new burdens analyzed under the
PRA. In addition, the Commission preliminarily
believes that some amount of crypto asset securities
trade on New Rule 3b–16(a) Systems. See supra
note 31. These systems could be some or many of
the systems the commenter references. However,
without additional information, the Commission is
unable to assess whether the systems referenced by
the commenter would meet existing Rule 3b–16(a),
or Rule 3b–16(a), as proposed to be revised. In
addition, some commenters estimate that hundreds
or thousands of persons could be captured by the
proposed rule change. See supra note 60. See also
SIFMA Letter II at 8–9 (stating that ‘‘[t]he broad
concept of communication protocol systems could
theoretically capture hundreds, if not thousands, of
systems across asset classes’’ and there is a
disconnect with the Commission’s estimate that 22
systems would be affected by the Proposed Rules).
As discussed above, systems would constitute a
single exchange and be responsible for compliance
as a single entity. See supra section II.B.
177 The original 22 Newly Designated ATSs the
Commission estimated in the Proposing Release
may include ATSs that trade crypto asset securities.
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the high end of these ranges.178 Some or
all of this total number will be subject
Collection of
information
Rule
Number of
respondents
Rule 301 of Regulation ATS and
Forms ATS and
ATS–R.
17 CFR
242.301(b)(2)
(‘‘Rule 301(b)(2)’’).
37
Rule 301(b)(5) ........
10
46
Rule 302 of Regulation ATS.
Rule 303 of Regulation ATS.
Rule 304 of Regulation ATS.
17 CFR
242.301(b)(9)
(‘‘Rule 301(b)(9)’’).
17 CFR
242.301(b)(10)
(‘‘Rule
301(b)(10)’’).
17 CFR 242.302
(‘‘Rule 302’’).
17 CFR 242.303
(‘‘Rule 303’’).
17 CFR 242.304
(‘‘Rule 304’’).
Rule 15b1–1 and
Form BD.
17 CFR 240.15b1–1
(‘‘Rule 15b1–1’’).
27
Form ID ....................
17 CFR 232.101
(‘‘Rule 101 of
Regulation S–T’’).
27
B. Total PRA Burdens
The Commission continues to assume
that, under the proposed amendments,
Newly Designated ATSs will choose to
register as broker-dealers and comply
with the conditions of Regulation ATS,
rather than register as a national
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to the following collections of
information 179 as estimated below:180
178 In the Proposing Release, the Commission
certified that the proposed amendments to
Regulation ATS would not, if adopted, have a
significant economic impact on a substantial
number of small entities pursuant to section 3(a) of
the Regulatory Flexibility Act of 1980 (5 U.S.C.
603(a)). See Proposing Release at 15645. The
Commission did not receive any comment regarding
its certification. Although the Commission is now
revising its estimate of the number of respondents
that would be subject to the proposed rules, the
Commission continues to certify that the proposed
amendments would not, if adopted, have a
significant economic impact on a substantial
number of small entities. As in the Proposing
Release, the Commission encourages written
comments regarding this certification.
179 The estimates presented here relate only to
those collections of information for which the
burdens will change as a result of increasing the
estimated total number of Newly Designated ATSs.
For the complete estimated burden associated with
the proposed amendments, the estimates here for
Newly Designated ATSs should be considered
together with those originally included in the
Proposing Release for Communication Protocol
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Description
46
46
46
9
The Commission estimates that certain Newly Designated ATSs that trade securities other than NMS stocks or government securities or repos, including
crypto asset securities, would be required to file the proposed modernized
Form ATS.
The Commission estimates that certain Newly Designated ATSs would meet the
volume thresholds in government securities, NMS stocks, corporate debt securities, municipal securities, equity securities that are not NMS stocks and for
which transactions are reported to an SRO and be subject to the Fair Access
Rule.
The Commission estimates that all Newly Designated ATSs will need to comply
with the requirement to file quarterly reports on the proposed modernized Form
ATS–R.
The Commission estimates that all Newly Designated ATSs will need to comply
with the requirement to have written safeguards and written procedures to protect subscribers’ confidential trading information.
The Commission estimates that all Newly Designated ATSs will need to comply
with the recordkeeping requirements for ATSs.
The Commission estimates that all Newly Designated ATSs will need to comply
with the record preservation requirements for ATSs.
The Commission estimates that certain Communication Protocol Systems that
trade NMS stocks or government securities or repos would be required to file
Form ATS–N, as proposed to be revised.
The Commission estimates that certain Newly Designated ATSs are not currently
registered as or affiliated with a broker-dealer and will need to register using
Form BD. This would include all Newly Designated ATSs that trade crypto
asset securities that do not currently file a Form ATS.
The Commission estimates that the same subset of Newly Designated ATSs that
are not currently registered as or affiliated with a broker-dealer will also need
to file Form ID to apply for EDGAR access.
securities exchange,181 and the
estimates below reflect this assumption.
1. Burden of Rule 301 of Regulation
ATS and Forms ATS and ATS–R
a. Rule 301(b)(2) Burden on Newly
Designated ATSs
As discussed in the Proposing
Release, the Commission estimates that
Systems, see Proposing Release at section VII, with
any burden identified by the identical combination
of Collection of Information and rule number
replaced and superseded by that contained here.
180 The estimated respondents for the Rule 304/
Form ATS–N collection of information is based on
the assumption that systems that operate multiple
market places that are affiliated with a new or
existing broker-dealer will all be operated by such
broker-dealer, and that such systems will not
register multiple broker-dealers to operate multiple
affiliated ATSs.
181 See Proposing Release at 15618 n.1056 and
accompanying text.
182 The Commission’s currently approved
baseline for the average initial compliance burden
for each initial operation report (‘‘IOR’’) on Form
ATS is 20 hours (Attorney at 13 hours +
Compliance Clerk at 7 hours). See Extension
Without Change of a Currently Approved
Collection: Regulation ATS Rule 301 Amendments;
ICR Reference No. 202101–3235–011; OMB Control
No. 3235–0509 (June 9, 2018), available at https://
www.reginfo.gov/public/do/PRAViewDocument
?ref_nbr=202101-3235-011 (‘‘Rule 301 PRA
Supporting Statement’’). The Commission proposed
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each Newly Designated ATS would
incur an initial burden of 20.5 hours 182
and an annual burden of 5 hours 183 for
complying with Rule 301(b)(2). In light
of the revision of the Commission’s
estimate of Newly Designated ATSs, the
Commission estimates the following
total initial and annual burdens:
amendments to Part I of Form ATS, which would
add an additional burden of 0.5 hours per filing
using the modernized form (Compliance Clerk at
0.5 hours), and therefore the average compliance
burden for each Form ATS filing would be 20.5
hours. See Proposing Release at section V.B and
section VII.E (discussing proposed changes).
183 The Commission’s currently approved
baseline for the average ongoing compliance burden
for each amendment to a Form ATS IOR is 4 hours
((Attorney at 1.5 hours + Compliance Clerk at 0.5
hours) × 2 IOR amendments a year). See Rule 301
PRA Supporting Statement. The Commission
proposed amendments to Part I of Form ATS,
including a requirement applicable to an ATS filing
an IOR amendment to attach as Exhibit 3 a marked
document to indicate changes to ‘‘yes’’ or ‘‘no’’
answers and additions or deletions from any Item
in Part I, Part II, and Part III, which would add an
additional annual burden of 1 hour per ATS using
the modernized form (Compliance Clerk at 0.5
hours × 2 IOR amendments a year). Therefore the
average compliance burden for each Form ATS
filing would be 5 hours. See Proposing Release at
section V.B and section VII.E (discussing proposed
changes).
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Burden type
Respondent type
Number of
respondents
Burden per respondent
Initial ......................................
Annual ....................................
Newly Designated ATSs ......
..............................................
37
..............................
20.5 hours ............................
5 hours .................................
b. Rule 301(b)(5) Burden on Newly
Designated ATSs
As discussed in the Proposing
Release, the Commission estimates an
annual compliance burden of 37 hours
per respondent for Rule 301(b)(5).184 In
Number of
respondents
Respondent type
Newly designated ATSs .........................
d. Rule 301(b)(9) Burden on All
Respondents
As discussed in the Proposing
Release, the Commission estimates an
Number of
respondents
Respondent type
Newly Designated ATSs ........................
19 hours ................................................
initial burden of 8 hours 187 and an
annual burden of 4 hours 188 per
respondent for complying with Rule
301(b)(10). In light of the revision of the
As discussed in the Proposing
Release, the Commission estimates an
758.5 hours.
185 hours.
Total annual burden (number of
respondents × annual burden per
respondent)
370 hours.
annual compliance burden of 19 hours
per new Form ATS–R respondent 185
and 3 hours per existing Form ATS–R
respondent.186 In light of the revision of
the Commission’s estimate of Newly
Designated ATSs, the Commission
estimates the following total annual
burdens:
Annual burden per respondent
46
e. Rule 301(b)(10) Burden on Newly
Designated ATSs
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37 hours ................................................
subject to the requirements of 17 CFR
242.301(b)(6) (‘‘Rule 301(b)(6)’’), and
therefore, the estimates in the Proposing
Release remain unchanged.
c. Rule 301(b)(6) Burden on Newly
Designated ATSs
The Commission estimates that none
of the Newly Designated ATSs trading
crypto asset securities or that have
entered or intend to enter the market
since the Commission issued the
Proposing Release would meet the
applicable volume requirements and be
Total burden (number of
respondents × burden per
respondent)
light of the revision of the Commission’s
estimate of Newly Designated ATSs, the
Commission estimates the following
total annual burdens:
Annual burden per respondent
10
29467
Total annual burden (number of
respondents × annual burden per
respondent)
874 hours.
Commission’s estimate of Newly
Designated ATSs, the Commission
estimates the following total initial and
annual burdens:
Burden type
Respondent type
Number of
respondents
Burden per respondent
Initial ......................................
Annual ....................................
Newly Designated ATSs ......
..............................................
46
..............................
8 hours .................................
4 hours .................................
Total burden (number of
respondents × burden per
respondent)
368 hours.
184 hours.
2. Burden of Rules 302 and 303 of
Regulation ATS on Newly Designated
ATSs
As discussed in the Proposing
Release, the Commission estimates an
annual burden of 45 hours per
respondent to comply with Rule 302 189
and 15 hours to comply with Rule
303.190 In light of the revision of the
Commission’s estimate of Newly
Designated ATSs, the Commission
estimates the following total annual
burdens:
184 The Commission’s currently approved
baseline for the average compliance burden per
respondent is 37 hours = 10 hours for Fair Access
standards recordkeeping (Attorney at 5 hours × 2
responses a year) + 27 hours for Fair Access notices
(Attorney at 1 hour × 27 responses a year). See
Proposing Release at section VII.D.1.b.
185 The annual burden per Newly Designated ATS
would be 4.75 hours × 4 quarterly filings annually
= 19 burden hours. See Proposing Release at 15590
n.770.
186 The annual burden per existing Form ATS–R
respondent would be 0.75 hours × 4 quarterly
filings annually = 3 burden hours. See id. at 15590
n.771.
187 The Commission’s currently approved
baseline for the average initial compliance burden
is 8 hours (Attorney at 7 hours + Compliance Clerk
at 1 hour). See Rule 301 PRA Supporting Statement.
188 The Commission’s currently approved
baseline for the average ongoing compliance burden
is 4 hours (Attorney at 2 hours + Compliance Clerk
at 2 hours). See id.
189 The Commission’s currently approved
baseline for the average compliance burden is 45
hours (Compliance Clerk at 45 hours). See
Extension Without Change of a Currently Approved
Collection: Rule 302 (17 CFR 242.302)
Recordkeeping Requirements for Alternative
Trading Systems; ICR Reference No. 201906–3235–
011; OMB Control No. 3235–0510 (Oct. 24, 2019),
available at https://www.reginfo.gov/public/do/
PRAViewDocument?ref_nbr=201906-3235-011.
There is no initial burden associated with this rule.
190 The Commission’s currently approved
baseline for the average compliance burden is 15
hours (Compliance Clerk at 15 hours). See
Extension Without Change of a Currently Approved
Collection: Rule 303 (17 CFR 242.303) Record
Preservation Requirements for Alternative Trading
Systems; ICR Reference No. 202101–3235–010;
OMB Control No. 3235–0505 (June 25, 2021),
available at https://www.reginfo.gov/public/do/
PRAViewDocument?ref_nbr=202101-3235-010.
There is no initial burden associated with this rule.
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Respondent type
Number of
respondents
Annual burden per
respondent
Rule 302 ................................
Rule 303 ................................
Newly Designated ATSs ......
..............................................
46
..............................
45 hours ...............................
15 hours ...............................
As discussed in the Proposing
Release, the Commission estimates an
initial compliance burden of 136.4
hours per new Form ATS–N
respondent 191 and an annual burden of
3. Burden of Rule 304 of Regulation
ATS and Form ATS–N on Newly
Designated ATSs
Burden per
respondent
(hours)
Respondent type
Number of
respondents
Initial .............................................................
Annual ..........................................................
Newly Designated ATSs .............................
......................................................................
9
........................
initial burden of 2.75 hours 193 and an
annual burden of 1 hour 194 per
respondent for completing Form BD. In
light of the revision of the Commission’s
As discussed in the Proposing
Release, the Commission estimates an
Burden per
respondent
(hours)
Respondent type
Number of
respondents
Initial .............................................................
Annual ..........................................................
Newly Designated ATSs .............................
......................................................................
27
........................
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estimated to be approximately 54.6 hours for an
Attorney, 0.5 hours for a Chief Compliance
Manager, 34.55 hours for a Compliance Manager,
32.25 hours for a Senior Systems Analyst, 1 hour
for a Senior Marketing Manager, and 7.5 hours for
a Compliance Clerk. The Commission estimates that
the proposed amendments to Form ATS–N would
add an additional burden of 6 hours per filing
(Attorney at 2.5 hours, Compliance Manager at 1.5
hours, Senior Systems Analyst at 1.5 hours, and
Compliance Clerk at 0.5 hours), and therefore the
average compliance burden for each new Form
ATS–N filer would be 136.4 hours. See Proposing
Release at section V.B and section VII.E (discussing
proposed changes).
192 The currently approved baseline for filing
amendments to Form ATS–N is 47 hours ((Attorney
at 5.5 hours + Compliance Manager at 2 hours +
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136.4
47
Total burden
(number of
respondents ×
burden per
respondent,
rounded to
nearest
0.5 hours)
1,227.5
423
estimate of Newly Designated ATSs, the
Commission estimates the following
total initial and annual burdens:
Burden type
191 The Commission’s currently approved
baseline for the average initial compliance burden
for each initial Form ATS–N is 130.4 hours
(currently approved baseline burden to complete an
initial Form ATS at 20 hours: Attorney at 13 hours
and Compliance Clerk at 7 hours; see Proposing
Release at 15588 n.759) + (Part I at 0.5 hour) + (Part
II at an average of 29 hours) + (Part III at an average
of 78.75 hours) + (Access to EDGAR at 0.15 hours)
+ (Posting link to published Form ATS–N on ATS
website at 2 hours) = 130.4 burden hours. See
Extension Without Change of a Currently Approved
Collection: Regulation ATS Rule 304 and Form
ATS–N; ICR Reference No. 202109–3235–014; OMB
Control No. 3235–0763 (January 3, 2022), available
at https://www.reginfo.gov/public/do/
PRAViewICR?ref_nbr=202109-3235-014 (‘‘Rule 304
PRA Supporting Statement’’). The aggregate totals
by professional, including the baseline, are
2,070 hours.
690 hours.
47 hours.192 In light of the revision of
the Commission’s estimate of Newly
Designated ATSs, the Commission
estimates the following total annual
burdens:
Burden type
4. Burden of Rule 15b1–1 and Form BD
on Newly Designated ATSs
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Total annual burden
(number of
respondents × annual
burden per respondent)
Rule
2.75
0.95
Total burden
(number of
respondents ×
burden per
respondent,
rounded to
nearest
0.5 hours)
74
25.5
Compliance Clerk at 1.9 hours) × 5 amendments a
year). See Rule 304 PRA Supporting Statement.
193 The Commission’s currently approved
baseline for the average initial compliance burden
for each Form BD is 2.75 hours (Compliance
Manager at 2.75 hours). 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’’).
194 The Commission’s currently approved
baseline for the average ongoing compliance burden
for each respondent amending Form BD is 0.95
hours (Compliance Manager at 0.33 hours × 2.87
amendments per year). See Form BD PRA
Supporting Statement.
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5. Burden of Form ID on Newly
Designated ATSs
As discussed in the Proposing
Release, the Commission estimates, with
Respondent type
Number of
respondents
Initial burden
per respondent
(hours)
Total initial
burden
(number of
respondents
× initial burden
per respondent,
rounded to
nearest
0.5 hours)
Newly Designated ATSs ..................................................................................................
27
0.15
4
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 S7–02–22. Requests for
materials submitted to Office of
Management and Budget (‘‘OMB’’) by
the Commission with regard to this
collection of information should be in
writing, with reference to File Number
S7–02–22 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.
C. Request for Comments
Pursuant to 44 U.S.C. 3506(c)(2)(B),
the Commission solicits comments to:
39. 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;
40. Evaluate the accuracy of the
Commission’s estimates of the burden of
the proposed collection of information;
41. Determine whether there are ways
to enhance the quality, utility, and
clarity of the information to be
collected;
42. Evaluate whether there are ways
to minimize the burden of collection of
information on those who are to
respond, including through the use of
automated collection techniques or
other forms of information technology;
and
43. Evaluate whether the proposed
amendments would have any effects on
any other collection of information not
previously identified in this section.
Persons submitting comments on the
collection of information requirements
should direct them to the Office of
The Commission received comments
on the Proposing Release stating that the
Commission had not considered the
economic effects of the Proposed Rules
on New Rule 3b–16(a) Systems that
trade crypto asset securities.197 In this
section the Commission is
supplementing the economic analysis
provided in the Proposing Release with
additional analysis that considers the
impact of the Proposed Rules on New
Rule 3b–16(a) Systems that trade crypto
asset securities.198
The Commission preliminarily
believes that some amount of crypto
asset securities trade on New Rule 3b–
16(a) Systems. These New Rule 3b–16(a)
Systems do not meet the current
definition of an exchange and thus are
not subject to regulation either as a
national securities exchange or an ATS.
By amending Exchange Act Rule 3b–16
to include New Rule 3b–16(a) Systems
within the definition of exchange, the
Proposed Rules would functionally
apply Regulation ATS to an additional
number of entities not currently
regulated by it. This would have a
number of benefits, including enhanced
regulatory oversight and protection for
investors, a reduction in trading costs
and improvement in execution quality,
and enhancement of price discovery and
liquidity.
The Proposed Rules would also have
costs for those entities subject to new
requirements, including compliance
costs associated with filing forms such
as Form ATS–N or Form ATS,
protecting confidential information,
keeping certain records, registering as a
broker-dealer, and complying with the
Fair Access Rule and/or Regulation SCI
if applicable.
For purposes of measuring the effects
of the proposed rule on participants in
crypto asset securities markets, this
analysis assumes that market
participants are compliant with existing
applicable Commission and FINRA
rules, including those requiring
registration and the rules and
regulations applicable to such registered
195 See Revision of a Currently Approved
Collection: Form ID—EDGAR Password; ICR
Reference No. 202104–3235–022; OMB Control No.
3235–0328 (Apr. 29, 2021), available at https://
www.reginfo.gov/public/do/
PRAViewDocument?ref_nbr=202104-3235-022.
196 ‘‘Regulation SCI’’ consists of 17 CFR 242.1000
through 242.1007.
197 See GDCA Letter II at 4, 5, and 6; Crypto
Council Letter at 2, 3, 4, and 5; McHenry/Huizenga
Letter at 2; LeXpunK Letter at 3; ADAM Letter II
at 13 and 14; Chamber Letter at 4; Coinbase Letter
at 2 and 6; a16z Letter at 2, 3, 7, 20 and 21;
Blockchain Association Letter II at 1 and 7; DeFi
Education Fund Letter at 3.
198 Exchange Act section 3(f) requires the
Commission, when it is engaged 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 will promote efficiency,
competition, and capital formation. See 15 U.S.C.
78c(f). In addition, Exchange Act section 23(a)(2)
requires the Commission, when making rules
pursuant to the Exchange Act, to consider among
other matters the impact that any such rule would
have on competition and not to adopt any rule that
would impose a burden on competition that is not
necessary or appropriate in furtherance of the
purposes of the Exchange Act. See 15 U.S.C.
78w(a)(2).
6. Burden of Regulation SCI on Newly
Designated ATSs
The Commission does not estimate
any Newly Designated ATSs that trade
crypto asset securities or that have
exited, entered, or intend to enter the
market since the Commission issued the
Proposing Release will be subject to
Regulation SCI,196 and therefore, the
estimates in the Proposing Release
remain unchanged.
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revision of the Commission’s estimate of
Newly Designated ATSs, the
Commission estimates the following
total burdens:
regards to Rule 101 of Regulation S–T,
an initial burden of 0.15 hours 195 and
no annual burden per respondent for
completing Form ID. In light of the
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V. Economic Analysis
A. Introduction
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entities. To the extent that some entities
engaged in activities involving crypto
asset securities are not, but should be,
FINRA or Commission registered
entities, they may incur additional costs
to comply with existing rules and
registration obligations that are distinct
from the costs associated with the
Proposed Rules and are not discussed in
this analysis. Similarly, any benefits
from coming into compliance with
existing rules and registration
obligations are also not discussed in this
analysis, and effects on efficiency,
competition, and capital formation may
differ from the discussion in this
analysis to the extent impacted entities
do not comply with existing applicable
Commission or FINRA rules. For such
entities, we expect the benefits and
costs specifically associated with the
Proposed Rules to be the same as those
described below as applicable.
B. Baseline
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1. Current State of Crypto Asset Markets
The global market for crypto assets is
valued by some estimates at
approximately $900 billion,199 as of
December 2022. Volatility in the price of
crypto assets has caused this number to
fluctuate considerably over the past few
years. For example, in July of 2020 the
market was estimated to be worth
approximately $276 billion, but went on
to reach a peak value of approximately
$3 trillion by November 2021.200 A
subset of these crypto assets are
securities with associated activity
within the U.S.201
The Commission has limited
information regarding crypto asset
securities.202 This limitation is, in part,
199 See, e.g., Global Cryptocurrency Market Cap
Charts, CoinGecko, available at https://
www.coingecko.com/en/global-charts (last visited
on Mar. 15, 2023).
200 Id.
201 The Commission is aware that some amount
of activity in the market for crypto assets discussed
in this Reopening Release is conducted outside the
U.S. Due to unique challenges in analyzing the
crypto asset market, the Commission faces obstacles
to obtaining reliable, comprehensive, and
comparable information to determine, in this
rulemaking, the extent of the activities taking place
within the U.S. For example, while the issuance of
a crypto asset on a blockchain can be detected by
observers of the blockchain, the national or
international scope of the activities involving this
asset is not always readily apparent. Furthermore,
many of the platforms on which crypto assets are
traded do not provide publicly available
information that could be used to inform the
determination about the scope of their operations.
This is due, in part, to the significant amount of
trading in crypto asset securities that may be
occurring in non-compliance with the federal
securities laws. See also supra note 26 (discussing
crypto assets that are securities).
202 See, e.g., FSOC Report, supra note 30 (‘‘The
crypto-asset ecosystem is characterized by opacity
that creates challenges for the assessment of
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due to the fact that only a small portion
of crypto asset security trading activity
is occurring within entities that are
registered with the Commission and any
of the SROs, or operating pursuant to
the Regulation ATS exemption.203 For
example, there are currently no special
purpose broker-dealers authorized to
maintain custody of crypto asset
securities.204 This information
financial stability risks.’’); Crypto-Assets Treasury
Report, supra note 75, at 12 (finding that data
pertaining to ‘‘off-chain activity’’ is limited and
subject to voluntary disclosure by trading platforms
and protocols, with protocols either not complying
with or not subject to obligations ‘‘to report accurate
trade information periodically to regulators or to
ensure the quality, consistency, and reliability of
their public trade data’’); Fin. Stability Bd.,
Assessment of Risks to Financial Stability from
Crypto-assets 18–19 (Feb. 16, 2022) (‘‘FSB Report’’),
available at https://www.fsb.org/wp-content/
uploads/P160222.pdf (finding that the difficulty in
aggregating and analyzing available data in the
crypto asset space ‘‘limits the amount of insight that
can be gained with regard to the [crypto asset]
market structure and functioning,’’ including who
the market participants are and where the market’s
holdings are concentrated, which, among other
things, limits regulators’ ability to inform policy
and supervision); Raphael Auer et al., Banking in
the Shadow of Bitcoin? The Institutional Adoption
of Cryptocurrencies 4, 9 (Bank for Int’l Settlements,
Working Paper No. 1013, May 2022), available at
https://www.bis.org/publ/work1013.pdf (stating that
data gaps, which can be caused by limited
disclosure requirements, risk undermining the
ability for holistic oversight and regulation of
cryptocurrencies); Int’l Monetary Fund, The Crypto
Ecosystem and Financial Stability Challenges, in
Global Financial Stability Report 41, 47 (Oct. 2021),
available at https://www.imf.org/-/media/Files/
Publications/GFSR/2021/October/English/ch2.ashx
(finding that crypto asset service providers provide
limited, fragmented, and, in some cases, unreliable
data, as the information is provided voluntarily
without standardization and, in some cases, with an
incentive to manipulate the data provided).
203 For a description of the requirements of the
Regulation ATS exemption, see Proposing Release
at section II.E.2.
204 For background on 17 CFR 240.15c3–3 (‘‘Rule
15c3–3’’), as it relates to crypto asset securities, see
U.S. Sec. & Exch. Comm’n, Joint Staff Statement on
Broker-Dealer Custody of Digital Asset Securities
(July 8, 2019) (‘‘Joint Staff Statement on BrokerDealer Custody of Digital Asset Securities’’),
available at https://www.sec.gov/news/publicstatement/joint-staff-statement-broker-dealercustody-digital-asset-securities; Fin. Indus. Regul.
Auth., SEC Staff No-Action Letter, ATS Role in the
Settlement of Digital Asset Security Trades (Sept.
25, 2020), available at https://www.sec.gov/
divisions/marketreg/mr-noaction/2020/finra-atsrole-in-settlement-of-digital-asset-security-trades09252020.pdf. 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. The Commission issued a statement
describing its position that, for a period of five
years, special purpose broker-dealers operating
under the circumstances set forth in the statement
will not be subject to a Commission enforcement
action on the basis that the broker-dealer deems
itself to have obtained and maintained physical
possession or control of customer fully paid and
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limitation is also, in part, due to the
significant trading activity in crypto
asset securities that may be occurring in
non-compliance with the federal
securities laws.205
Because of this limited information,
and because, as the Commission
understands, the trading of crypto asset
securities utilizes different technology
and methods of operation than is
utilized in markets for non-crypto asset
securities, the Commission has a greater
degree of uncertainty in characterizing
the baseline for the crypto asset market
than it does in characterizing the
baseline for non-crypto asset securities.
It is impossible to determine the true
market turnover 206 for crypto assets,
because, among other reasons, the
crypto asset market reportedly is
characterized 207 by rampant wash
excess margin crypto asset securities for purposes
of Rule 15c3–3(b)(1) under the Exchange Act. See
Commission Statement on Custody of Digital Asset
Securities by Special Purpose Broker-Dealers. To
date, no such special purpose broker-dealer
registration applications have been granted by
FINRA.
205 See also FSOC Report, supra note 30, at 5, 87,
94, 97 (emphasizing the importance of the existing
financial regulatory structure while stating that
certain digital asset platforms may be listing
securities while not in compliance with exchange,
broker-dealer, or other registration requirements,
which may impose additional risk on banks and
investors and result in ‘‘serious consumer and
investor protection issues’’); Crypto-Assets Treasury
Report, supra note 49, at 26, 29, 39, 40 (stating that
issuers and platforms in the digital asset ecosystem
may be acting in non-compliance with statutes and
regulations governing traditional capital markets,
with market participants that actively dispute the
application of existing laws and regulations,
creating risks to investors from non-compliance
with, in particular, extensive disclosure
requirements and market conduct standards); FSB
Report, supra note 202, at 4, 8, 18 (stating that some
trading activity in crypto assets may be failing to
comply with applicable laws and regulations, while
failing to provide basic investor protections due to
their operation outside of or in non-compliance
with regulatory frameworks, thereby failing to
provide the ‘‘market integrity, investor protection or
transparency seen in appropriately regulated and
supervised financial markets’’).
206 That is, the amount of crypto assets that
actually change hands between distinct market
participants.
207 See, e.g., Lin William Cong, Xi Li, Ke Tang &
Yang Yang, Crypto Wash Trading (Nat’l Bureau of
Econ. Rsch., Working Paper No. 30783, Dec. 2022),
available at https://www.nber.org/papers/w30783,
Andrew Singer, Cleaning Up Crypto Exchange
Wash Trading Will Take Global Regulation,
Cointelegraph (July 29, 2020), available at https://
cointelegraph.com/news/cleaning-up-cryptoexchange-wash-trading-will-take-global-regulation
(according to Gerald Chee, head of research at
CoinMarketCap.com, ‘‘there is no way to tell if an
exchange is inflating volume or not by merely
looking at the volume they report’’ because ‘‘[t]he
only way to detect ‘wash trades’ would require
access to ‘account-ID’ data’’ and ‘‘only exchanges
have access to these [data]’’); see also, e.g.,
Friedhelm Victor & Andrea Marie Weintraud,
Detecting and Quantifying Wash Trading on
Decentralized Cryptocurrency Exchanges (Working
Paper, Feb. 13, 2021), available at https://arxiv.org/
pdf/2102.07001.pdf.
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trading.208 The Commission does
possess data on reported trades from
many crypto asset platforms, but there
is no reliable way to determine whether
trades reported are actually between two
different market participants or are the
result of wash trading. Estimates of how
much of the total crypto asset market
volume is attributable to wash trades
vary but range as high as 95%.209 The
Commission believes that with such
pervasive wash trading, any reported
volume figures are significantly
misleading.
Because such wash trading renders
volume data unusable, the Commission
is also unable to determine the share of
trading that takes place on various types
of platforms; or the amount of
concentration in volume among various
exchanges, including whether a given
exchange has any legitimate volume at
all.
It is likewise impractical to determine
market turnover of crypto assets using
data on transfer of crypto assets between
wallets that is available via public
blockchains. The Commission
preliminarily believes that a direct
analysis of blockchain data would be
unable to reliably determine how many
crypto assets are actually moving
between different entities. Among other
complications, the Commission
understands that it is a common
practice for a single entity participating
in crypto asset trading to control
multiple wallets and to move funds
between those wallets. There may be no
way of determining that movement
between such wallets represents the
exchange of crypto assets between
distinct entities. Additionally, because
transactions on the blockchain can be
costly and slow, the Commission
understands crypto assets to sometimes
trade and settle off-chain, with only
changes between public addresses
eventually appended to the blockchain.
Thus, even if one could determine
changes in ownership from transfers on
208 The term wash trading refers to the practice
of creating misleading trade reports and delivering
such reports to the public, usually to deceive
market participants into believing volume in a
particular instrument is higher than it actually is.
This is often arranged by trading against one’s own
limit orders, or buy swapping the instrument back
and forth with a collaborator.
209 See, e.g., Bitwise Asset Management,
Presentation to the Securities and Exchange
Commission (Mar. 19, 2019), available at https://
www.sec.gov/comments/sr-nysearca-2019-01/
srnysearca201901-5164833-183434.pdf (stating that
only 4.5% of approximately $6 billion of reported
trading in Bitcoin was real). See also Javier Paz,
More Than Half of All Bitcoin Trades are Fake,
Forbes (Aug. 26, 2022), available at https://
www.forbes.com/sites/javierpaz/2022/08/26/morethan-half-of-all-bitcoin-trades-are-fake/
?sh=471e51be6681.
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the blockchain, that might not reflect all
changes of ownership that occur on offchain platforms.
a. Platforms in the Market for Crypto
Assets
The Commission is unable to reliably
determine the amount of trading in
crypto assets that takes place through
platforms, or to quantify their share of
the market for trading services in crypto
assets. This is due to the wash trading
problem in the crypto asset market
discussed above.210 The Commission is
also unable to reliably determine the
number of platforms operating in the
crypto asset market.211
Some platforms may operate through
the use of smart contracts.212 A smart
contract may be designed to accept and
integrate changes to its functionality, or
it may be immutable.213 Different
designs are used to control changes to
a smart contract’s functionality,
including designs that enable only very
specific entities to submit changes to the
smart contract, as well as designs where
a number of market participants receive
tokens theoretically enabling them to
vote on whether a change proposed by
a developer is integrated or not.214 The
Commission understands that these
tokens, or other tokens, may also entitle
their holders to additional benefits,
which may include a claim on some
210 See supra section V.B.1. The difficulties in
computing volume is also due in part to the
significant amount of trading in crypto asset
securities that may be occurring in non-compliance
with federal securities laws. See supra section
V.B.1.
211 While the Commission is uncertain about the
total number of platforms, some existing estimates
of this number are over 200 for certain kinds of
platforms, and over 250 for other kinds of
platforms. See, e.g., Top Cryptocurrency Spot
Exchanges, CoinMarketCap, available at https://
coinmarketcap.com/rankings/exchanges/, Top
Cryptocurrency Decentralized Exchanges,
CoinMarketCap, available at https://
coinmarketcap.com/rankings/exchanges/dex/; see
also Bloomberg Letter II at 3; see supra section
V.B.1. discussing difficulties in determining the
size and scope of the crypto asset market generally,
including issues related to foreign activity and noncompliance. See infra section V.B.1.c (where the
Commission has provided a rough estimate of the
number of Communication Protocol Systems in the
market for crypto asset securities).
212 See supra note 15. Smart contracts generally
can be appended to a blockchain capable of running
such programs by anyone with the ability to submit
transactions to it. The Commission understands that
not all blockchains are initially designed with the
intention of enabling smart contract functionality.
213 By ‘‘immutable,’’ the Commission means that
the smart contract cannot be changed through the
processes that are part of the typical functioning of
a blockchain. The miners or validators of the
blockchain, by deviating from such processes, can
make alterations to the blockchain that alter
interactions with ‘‘immutable’’ smart contracts. See
infra section V.C.2.c.i for related discussion.
214 Such tokens are sometimes referred to as
governance tokens.
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29471
portion of the transaction fees paid to
the smart contract.
i. Operations of Platforms
The Commission understands that
some platforms for crypto assets operate
limit order books to facilitate trading
among their customers. Some operators
of platforms also operate an affiliated
so-called over-the-counter system or an
RFQ system.215 Colocation options are
possible at some platforms.216
The Commission preliminarily
believes that platforms can be a source
of pricing information for the crypto
assets that trade on those platforms.
Pricing information from off-chain
platforms is sometimes supplied to
blockchains to serve as a reference price
for various entities using smart contracts
in their systems.217
Some entities run limit order books
on the blockchain, by utilizing smart
contracts that accept limit orders,
display them, and match limit orders
with market orders. In a system using a
limit order book where all activity takes
place on-chain, traders must pay for
blockchain transactions for each
message they wish to send to the limit
order book, in addition to any fees the
limit order book may charge. This can
increase the sources of transaction cost
relative to a platform that does not run
its limit order book on-chain. Some
entities with an on-chain component to
their system may run their limit order
books in whole or in part off-chain, with
only final transactions being posted to
the blockchain. This may help both
reduce total fees paid by users and
issues of latency in updating on-chain
records.
An AMM is designed as an alternative
to a limit order book.218 An AMM
typically offers liquidity by exchanging
one crypto asset for another,219 with the
215 See Elias Ahonen, What Really Goes on at a
Crypto OTC Desk?, Cointelegraph (May 16, 2022),
available at https://cointelegraph.com/magazine/
explained-what-really-crypto-otc-desk/.
216 See Anna Baydakova, High-Frequency Trading
is Newest Battleground in Crypto Exchange Race,
CoinDesk (July 8, 2019), available at https://
www.coindesk.com/markets/2019/07/08/highfrequency-trading-is-newest-battleground-in-cryptoexchange-race/.
217 See, e.g., Andrei Anisimov & Luke
Youngblood, Introducing the Coinbase Price Oracle,
Coinbase (Apr. 23, 2020), available at https://
www.coinbase.com/blog/introducing-the-coinbaseprice-oracle. See also infra section V.B.1.a for
further discussion of using price information from
centralized platforms in DeFi settings.
218 AMMs typically make use of smart contracts
to enable their functionality, and as a consequence
may run on-chain to a significant degree.
219 The inventory held by an AMM for providing
liquidity is typically called a pool. A single AMM
protocol will typically have many pools, one for
each combination of crypto asset trades offered. For
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exchange rate typically set according to
a pre-specified formula. In some cases,
this formula is set only by a
mathematical function of the inventory
the AMM possesses of each crypto asset
in the pair,220 while in other cases the
AMM may incorporate information from
an off-chain platform to help inform the
exchange rate. The inventory that an
AMM uses to fill orders is typically
supplied by market participants, and the
details of the smart contract may specify
compensation for supplying inventory
(e.g., by dividing up transaction fees
among the inventory suppliers). In some
cases, the AMM may permit the
inventory suppliers to restrict the use of
their liquidity to pre-specified price
ranges.
The Commission understands that
while some platforms provide markets
that enable the trading of crypto assets
for dollars or other fiat currency,
platforms for crypto assets typically
offer markets in trading pairs as well.
This means that, for example, an order
on a limit order book may offer to buy
or sell units of a base asset in exchange
for a quote asset with the price
expressed in units of the quote asset.221
In addition, some platforms focus on
facilitating trades where the transaction
takes place entirely ‘‘on-chain.’’ In this
case, the platform is unable to facilitate
crypto asset markets using fiat currency.
Instead, such systems can only facilitate
trading in crypto asset pairs.
The Commission understands that the
majority of platforms typically require
crypto assets and fiat currency to be
provided to the platform in advance of
any trading activity. This requirement
can help ensure the successful
completion of trades.
A variety of market participants use
platforms to trade crypto assets. The
Commission understands that retail
investors are significant users of
platforms.222 The Commission also
example, for crypto assets A, B, and C, a single
AMM protocol might have a pool that offers to trade
A for B and vice versa, another pool that offers to
trade B for C and vice versa, and a third pool that
offers to trade A for C and vice versa. Some AMMs
can have pools with more than two assets that
permit trades in combinations of the assets in the
pool. For example, a pool might contain A, B, and
C, and permit trades such as exchanging A and B
for C.
220 In the case where the AMM offers pools with
more than two assets, the formula may be based on
the amount of each asset held in the pool.
221 See supra section II.A for additional
discussion of pairs trading.
222 See, e.g., Michel Rauchs, Apolline Blandin,
Kristina Klein, Gina Pieters, Martino Recanatini &
Bryan Zhang, 2nd Global Cryptoasset
Benchmarking Study (Dec. 2018), available at
https://www.jbs.cam.ac.uk/wp-content/uploads/
2020/08/2019-09-ccaf-2nd-global-cryptoassetbenchmarking.pdf, showing that globally, retail
investors are 70% of ‘‘exchange-only’’ crypto
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understands that some platforms may
also be used to fill the orders of
institutional investors, and may have
market makers participating as well.
The Commission understands that the
speed of processing on some platforms
may be faster when compared to
transfers on some blockchains or
systems that involve blockchain
processing as part of functionality,223
both of which are reliant on blockchain
transactions to function. The
Commission understands that there is
often a queue of transactions waiting to
be appended to a blockchain, and
transactions being sent to a trading
platform running on that blockchain
may have to wait in that queue to be
processed.
Trading using systems that involve
sending information to a blockchain 224
as a means of interacting with the
system may expose the market
participant to information leakage of a
kind that is not present on platforms or
New Rule 3b–16(a) Systems that do not
require interacting through a
blockchain. The Commission
understands that messages to be
appended to a blockchain often end up
in queue that is publicly viewable,
which then exposes the market
participant to information leakage.
Furthermore, when trading on a
system that runs some of its
functionality on-chain, there is a risk of
unexpected or undesired execution
results. Specifically, a market
participant may send an order to a
blockchain intending to interact with
the on-chain portion of the system based
on market conditions which will be
altered by other transactions that are
already queued but not yet processed.225
Some ATSs, which have an active
Form ATS on file with the Commission,
specify in their Form ATS disclosures
that they trade or intend to trade crypto
asset securities.
business users and 78% of ‘‘multi-segment’’ crypto
businesses. See also 2022 10–K, Coinbase (Feb. 21,
2023), available at https://www.sec.gov/Archives/
edgar/data/1679788/000167978823000031/coin20221231.htm showing that for one centralized
platform, retail investors accounted for
approximately 20% of trading volume in 2022.
223 See infra section V.B.1.c.
224 For example, sending a transaction to an AMM
running on-chain.
225 The Commission understands that some
platforms which have this risk permit transaction
messages to set limits to help mitigate the risk of
unexpected execution results. Although the
problem of messages already en route or queued for
processing causing unexpected changes to a trading
platform for other users is a problem on off-chain
platforms as well, the Commission understands that
the problem may be more severe on platforms
which require interaction through a blockchain
because the longer processing times can lead to
larger queues.
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ii. Regulatory Baseline
The provider of a platform that meets
the current criteria of Rule 3b–16 of the
Exchange Act is required to register as
a national securities exchange or operate
pursuant to the Regulation ATS
exemption, which involves registering
as a broker-dealer and complying with
Regulation ATS.226 The regulatory
requirements and the associated
compliance costs for platforms that
trade crypto asset securities vary
according to whether they are regulated
as a national securities exchange or
ATS.
A platform that trades crypto asset
securities could choose to register as a
national securities exchange pursuant to
sections 5 and 6 of the Exchange Act.227
The compliance costs associated with
being a national securities exchange are
generally significantly higher than those
of being an ATS. In contrast to an ATS,
a national securities exchange, as an
SRO, incurs compliance costs associated
with, among other things, setting
standards of conduct for its members,
administering examinations for
compliance with these standards,
coordinating with other SROs with
respect to the dissemination of
consolidated market data, and generally
taking responsibility for enforcing its
own rules and the provisions of the
Exchange Act and the rules and
regulations thereunder. Furthermore,
under section 19(b) of the Exchange Act,
a national securities exchange incurs
compliance costs by filing any proposed
changes to its rules with the
Commission, which the Commission
has the authority to approve or
disapprove.228
A platform that meets the current
definition of an exchange and operates
pursuant to the ATS exemption must
comply with Regulation ATS, and
226 See supra section V.B.1.a.i, discussing ATSs
that trade or intend to trade crypto asset securities.
There are no registered national securities
exchanges which trade crypto asset securities. See
supra section V.B.1.
227 Pursuant to section 6 of the Exchange Act,
national securities exchanges must establish rules
that generally: (1) are designed to prevent fraud and
manipulation, promote just and equitable principles
of trade, and protect investors and the public
interest; (2) provide for the equitable allocation of
reasonable fees; (3) do not permit unfair
discrimination; (4) do not impose any unnecessary
or inappropriate burden on competition; and (5)
with limited exceptions, allow any broker-dealer to
become a member. Section 6(b) of the Exchange Act
requires, among other things, that the national
securities exchange be so organized and have the
capacity to carry out the purposes of the Exchange
Act and to comply and enforce compliance by its
members, and persons associated with its members,
with the federal securities laws and the rules of the
exchange. See section 6(b) of the Exchange Act.
228 See generally section 19(b) of the Exchange
Act.
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incurs costs related to compliance with
these requirements. To operate under
the exemption, an ATS must register as
a broker-dealer 229 and comply with the
filing and conduct obligations
associated with being a registered
broker-dealer, including membership in
an SRO, such as FINRA,230 and
compliance with the SRO’s rules.231
Upon becoming a broker-dealer, the
operator of an ATS is subject to certain
broker-dealer requirements with respect
to maintaining net capital, reporting,
and recordkeeping.232 An ATS is subject
to Commission examinations and
FINRA examinations and surveillance,
trade reporting obligations, and certain
investor protection rules.233 An ATS is
required to establish adequate written
safeguards and written procedures 234 to
protect subscribers’ confidential trading
information.235 Furthermore, an ATS is
subject to certain reporting and
disclosure requirements, as applicable.
Under Rule 301(b)(2) of Regulation ATS,
an ATS that does not trade NMS stocks
must file Form ATS.236 An ATS must
file quarterly Form ATS–R to report to
the Commission, among other things,
trading volume, securities traded, and a
list of subscribers that were participants
during the relevant quarter.237 An ATS
229 The broker-dealer operator controls all aspects
of the operation of the ATS and is legally
responsible for ensuring that the ATS complies
with applicable federal securities laws and the rules
and regulations thereunder, including Regulation
ATS. See NMS Stock ATS Adopting Release at text
accompanying note 663.
230 See section 15(b)(8) of the Exchange Act.
231 See Regulation ATS Adopting Release, supra
note 3, at 70903.
232 Registered broker-dealers would be subject to
requirements under certain Exchange Act rules,
such as Rule 15c3–1, Rule 17a–1, Rule 17a–3, Rule
17a–4, and Rule 17a–5.
233 Under the federal securities laws and FINRA
rules, registered broker-dealers (e.g., broker-dealer
operators of ATSs) are subject to, among other
things: (1) various disclosure and supervision
obligations; (2) anti-money laundering obligations
(including suspicious activity reporting); (3) FINRA
OTC trade reporting requirements, including
requirements to maintain membership in, or
maintain an effective clearing arrangement with a
participant of, a clearing agency registered under
the Exchange Act; and (4) Commission
examinations and FINRA examinations and
surveillance of members and markets that its
members operate.
234 These written safeguards and written
procedures must include, among other things:
limiting access to the confidential trading
information of subscribers to those employees of the
ATS who are operating the system or responsible
for its compliance with these or any other
applicable rules; and implementing standards
controlling employees of the ATS trading for their
own accounts.
235 See 17 CFR 242.301(b)(10); NMS Stock ATS
Adopting Release, supra note 7, section VI.
236 Under Rule 304 of Regulation ATS, NMS
Stock ATSs are required to file public Form ATS–
N (instead of filing Form ATS), which is subject to
a Commission review and effectiveness process.
237 See Rule 301(b)(9); Form ATS–R.
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is subject to recordkeeping and record
preservation requirements under Rules
302 and 303 of Regulation ATS,
respectively.
In addition, an ATS that trades in
crypto asset securities that are corporate
debt securities, and meets certain
volume thresholds, is required to
comply with the Fair Access Rule and
Rule 301(b)(6) of Regulation ATS. The
requirements of Rule 301(b)(6) are
similar to, but with less benefits and
with significantly less costs than, the
requirements of Regulation SCI.238 Such
an ATS must be a member of FINRA,
and would accordingly be required to
report to the Trade Reporting and
Compliance Engine (TRACE)
transactions in corporate bonds.239
An ATS that trades crypto asset
securities that are municipal securities
is similarly required to comply with the
Fair Access Rule and with Rule
301(b)(6) of Regulation ATS if it meets
certain volume thresholds.
Additionally, the broker-dealer operator
of such an ATS must register with the
Municipal Securities Rulemaking Board
(MSRB) and accordingly is required to
report municipal bond trades to the
MSRB’s Real-Time Transaction
Reporting System (RTRS).240
A platform that operates as an NMS
Stock ATS and trades in crypto asset
securities that are NMS stocks is
required to file public Form ATS–N.
Such an ATS must comply with the
requirements of Regulation SCI and the
Fair Access Rule if it meets the
corresponding volume thresholds.
Additionally, because trades in NMS
stocks that are transacted off-exchange
must be reported to one of three FINRA
Trade Reporting Facilities, such an NMS
Stock ATS would have the reporting
obligation in most cases where it
handles the execution of the trade. Such
an ATS that receives or originates orders
in Eligible Securities 241 is required to
238 The scope and requirements of Rule 301(b)(6)
are narrower than those of Regulation SCI. For
example, Rule 301(b)(6) of Regulation ATS applies
to a narrower set of systems, as compared to
Regulation SCI. Rule 301(b)(6) of Regulation ATS
applies only to systems that support order entry,
order routing, order execution, transaction
reporting, and trade comparison, which is narrower
than the definition of SCI system. Also, Rule
301(b)(6) does not require ATSs to maintain a
backup facility, whereas Regulation SCI includes
such a requirement.
239 See Proposing Release at 15604 n.871 and
accompanying text.
240 See id. at 15608.
241 The CAT NMS Plan is a national market
system plan approved by the Commission pursuant
to Section 11A of the Exchange Act and the rules
and regulations thereunder. See Securities
Exchange Act Release No. 79318 (Nov. 15, 2016),
81 FR 84696 (Nov. 23, 2016). The CAT NMS Plan
and subsequent amendments to the Plan are
available at https://catnmsplan.com/about-cat/cat-
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29473
report any Reportable Event 242 to the
Consolidated Audit Trail.
A platform that is an ATS and trades
in crypto asset equity securities that are
not NMS stocks is required to comply
with Regulation SCI and the Fair Access
Rule if it meets certain volume
thresholds, be a member of FINRA, and
comply with associated reporting
obligations.
AMMs 243 that meet the definition of
a dealer or government securities dealer
under sections 3(a)(5) and 3(a)(44) of the
Exchange Act are subject to the
requirements applicable to dealers
under federal securities laws and FINRA
rules.244 These AMMs would incur
compliance costs associated with
broker-dealer requirements discussed in
section V.B.1.a.ii.
Regulated platforms do not offer
trading in non-cash markets for crypto
assets in which one of the assets is a
security and the other one is not a
security.245
b. New Rule 3b–16(a) Systems in the
Market for Crypto Assets Securities
The Commission understands that
some amount of trading in crypto asset
securities is facilitated through New
Rule 3b–16(a) Systems.246 The
nms-plan. Section 1.1 of the CAT NMS Plan defines
Eligible Securities as ‘‘(a) all NMS Securities; and
(b) all OTC Equity Securities,’’ where OTC Equity
Securities are defined as any equity security, other
than an NMS Security, subject to prompt last sale
reporting rules of a registered national securities
association and reported to one of such
association’s equity trade reporting facilities.’’ This
includes both OTC Equity Securities and
transactions in Restricted Equity Securities effected
pursuant to Securities Act Rule 144A.
242 According to Section 1.1 of the CAT NMS
Plan, ‘‘Reportable Event’’ includes, but is not
limited to, the original receipt or origination,
modification, cancellation, routing, execution (in
whole or in part) and allocation of an order, and
receipt of a routed order. See CAT NMS Plan, supra
note 241.
243 Some AMMs may operate as single dealer
platforms. A single dealer platform that meets the
requirement of existing Exchange Act Rule 3b–
16(b)(2) and Rule 3b–16(b)(2) as proposed to be
amended, would be excluded from the Exchange
Act Rule 3b–16(a) and thus not fall within the
definition of exchange. In addition, the proposed
amendments to Rule 3b–16 do not change the
registration obligations of a person that meets the
definition of a dealer or government securities
dealer under sections 3(a)(5) and 3(a)(44) of the
Exchange Act.
244 The Commission encourages commenters to
review the Commission’s proposal, ‘‘Further
Definition of ‘‘As a Part of a Regular Business’’ in
the Definition of Dealer and Government Securities
Dealer,’’ Securities Exchange Act Release No. 94524
(Mar. 28, 2022), 87 FR 23054 (Apr. 18, 2022) to
determine whether it might affect their comments
on this Reopening Release.
245 There is a significant amount of trading in
crypto asset securities that may be occurring in noncompliance with federal securities laws. See supra
section V.B.1.
246 See supra section V.B.1. Additionally, one
commenter states that the proposed amendments to
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Commission lacks information on the
entities involved providing New Rule
3b–16(a) Systems in the market for
crypto asset securities, and
consequently, is uncertain as to the
precise number of such entities.
Nevertheless, the Commission is
providing a rough estimate that there are
15–20 New Rule 3b–16(a) Systems
trading crypto asset securities.247 The
Commission requests comment on the
number of New Rule 3b–16(a) Systems
in the market for crypto asset securities.
The Commission lacks data on the share
of trades in crypto asset securities that
are conducted in this way, and requests
comment on this issue.
The Commission is uncertain as to the
range of specific communication
protocols used for trading crypto
assets.248 The Commission requests
comment on the types of protocols used
in trading crypto assets.
Some entities provide New Rule 3b–
16(a) Systems that may run part of the
system on-chain (for example, by using
smart contracts). A New Rule 3b–16(a)
System that utilizes such technology
may possess some of the same features
as other systems using that technology
described in section V.B.1.a.
The Commission understands that
when running a New Rule 3b–16(a)
System that involves on-chain
technology, the actual negotiation
portion of the system (e.g. the RFQ
functions) may be run ‘‘off-chain,’’ that
is, without using the blockchain for
computation and communication. Once
negotiation is finished, the transaction
may then be completed using
blockchain-based systems.
It is also possible that some New Rule
3b–16(a) Systems may be run entirely
on-chain. For example, there may be
smart contracts that enable the sending
of RFQs, responses to the RFQ, and
finalizing of transactions all through
communicating with a set of smart
contracts by sending messages to the
blockchain.
the definition of exchange, specifically the phrasing
‘‘to include systems that offer the use of non-firm
trading interest and communication protocols to
bring together buyers and sellers of securities,’’
could be read to encompass ‘‘unhosted protocols,’’
which the Commission understands to refer to DeFi
platforms. See Delphi Digital Letter at 11; see also
LeXpunK Letter at 3.
247 The Commission received comments stating
that we had not included an estimate of the number
of crypto asset security market participants that
would be included in the amended definition of
exchange. See GDCA Letter II at 6, Delphi Digital
Letter at 11, McHenry/Huizenga Letter at 2.
248 In the Proposing Release, the Commission
discussed common kinds of protocols and their
economic significance in their respective markets,
see, e.g., Proposing Release sections VIII.B.1,
VIII.B.2.b, VIII.B.3.b, VIII.B.4.b, VIII.B.5.d,
VIII.B.6.b, and VIII.B.7.
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The Commission preliminarily
believes that New Rule 3b–16(a)
Systems with on-chain components to
their system generally facilitate trades
that are not cash-based. That is, the
trades exchange one crypto asset
security for another crypto asset. The
Commission preliminarily believes that
it is possible that New Rule 3b–16(a)
Systems that do not use any on-chain
elements in their systems may also
facilitate trades that are non-cash based.
New Rule 3b–16(a) Systems do not
meet the current definition of exchange
under Rule 3b–16, and therefore are not
currently required to register as national
securities exchanges or comply with
Regulation ATS.249
c. Other Methods of Trading in Crypto
Assets
Market participants may transact in
crypto assets via bilateral voice trading
or electronic chat messaging.250 The
Commission understands that such
interactions may be with a market
maker in crypto assets, or with some
other market participant. Such methods
of trading permit negotiation on price
and size. The Commission lacks
information on current crypto asset
market practice, and requests comment
on this issue.
Bilateral voice trading may provide
flexibility to traders and reduce
information leakage. For these reasons,
the Commission preliminarily believes
it may be a useful method for trading
crypto assets in large blocks. The
Commission requests comment on the
role of bilateral voice trading in the
market for crypto assets.
d. Competition for Crypto Asset Trading
Services
The various platforms available for
trading crypto assets, as well as New
Rule 3b–16(a) Systems, compete to
attract order flow. The Commission
preliminarily believes that market
participants seeking liquidity in crypto
assets may prefer either one particular
platform or method of crypto asset
trading or multiple platforms or
methods. A single order may be split
and filled using the different methods.
It is also possible that some methods
may be used more than others in certain
segments of market participants.
Because New Rule 3b–16(a) Systems
are not currently subject to the same
regulation as organizations,
associations, or groups of persons that
meet the existing definition of
249 See supra section V.B.1.a.ii describing the
rules of Regulation ATS, as well as rules applicable
to national securities exchanges.
250 See supra section V.B.1.
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‘‘exchange’’ under Rule 3b–16, they
often trade pairs, which can include a
combination of securities and nonsecurities. This may give New Rule 3b–
16(a) Systems a competitive advantage
over platforms that currently meet
regulatory requirements for exchanges.
Some of the methods for trading
crypto asset securities involve platforms
that are currently subject to regulation
as an ATS or national securities
exchange.251 New Rule 3b–16(a)
Systems, in contrast, are not subject to
such regulation. This may have an
impact on competition for order flow
between these two groups of platforms.
For example, platforms that are ATSs or
national securities exchanges may offer
the benefits of investor protections
associated with these regulations to
customers in ways that New Rule 3b–
16(a) Systems do not. It is also the case
that the compliance costs for such
regulations may burden current ATSs
and national securities exchanges in a
way that disadvantages them in
competing with New Rule 3b–16(a)
Systems.
C. Economic Effects
The Commission discussed the
economic effects of the Proposed Rules
on general activity involving securities
in the Proposing Release. In this section,
the Commission discusses the economic
effects of the Proposed Rules on activity
involving crypto asset securities.
The Commission is relying on the
analysis in the Proposing Release to
form the basis for its discussion of the
effects of the Proposed Rules for systems
trading crypto asset securities.252 This is
because the Commission believes that
New Rule 3b–16(a) Systems that trade
crypto asset securities are broadly
similar in their functions to functions of
other New Rule 3b–16(a) Systems. The
following sections include discussion of
the extent to which we believe these
effects may deviate from those
discussed in the Proposing Release for
the market for crypto asset securities.
Throughout the discussion in this
Reopening Release, the Commission has
a greater degree of uncertainty in its
analysis of the costs that the Proposed
Rules would impose on market
participants for crypto asset securities
than it did in its discussion of costs for
non-crypto asset securities. This is
because the Commission has less data
251 See supra section V.B.1.a discussing such
platforms and the regulations to which they are
subjected. Also, see supra section V.B.1.a.i,
discussing ATSs that trade or intend to trade crypto
asset securities. Today, there are no registered
national securities exchanges that trade crypto asset
securities. See supra section V.B.1.
252 See id.
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on the functioning of the market for
crypto asset securities.253
As discussed in the Proposing
Release,254 a New Rule 3b–16(a) System
could choose to register as an exchange
rather than choose to comply with the
Regulation ATS exemption. The
Commission believes that New Rule 3b–
16(a) Systems that trade crypto asset
securities would likely elect to register
as a broker-dealer and comply with
Regulation ATS because the regulatory
costs associated with registering and
operating as an exchange would be
higher than those associated with
registering as a broker-dealer and
complying with Regulation ATS.255
One commenter agrees with the
Commission that any entity captured as
a New Rule 3b–16(a) System ‘‘would
likely prefer to be regulated as an ATS
as opposed to an exchange.’’ 256
1. Benefits
The Commission believes that the
benefits detailed in the Proposing
Release 257 would accrue in broadly the
same manner to market participants
who trade in crypto asset securities as
they would to market participants who
trade in the securities discussed in the
Proposing Release. This is because the
Commission believes that New Rule 3b–
16(a) Systems that trade crypto asset
securities are broadly similar in their
functions to functions of other New
Rule 3b–16(a) Systems. However,
throughout the discussion in this
Reopening Release, the Commission has
a greater degree of uncertainty in its
analysis of the benefits that the
Proposed Rules would provide to
market participants in the market for
crypto asset securities than it did in its
discussion of benefits for non-crypto
asset securities. This is because the
Commission has less data on the
functioning of the market for crypto
asset securities.258
Certain benefits discussed in the
Proposing Release apply only to certain
asset classes: the Commission believes
that if any current or future crypto asset
security falls into one of those classes,
then those benefits would likely apply
to the participants in the market for that
crypto asset security as well.
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a. Enhancement of Regulatory Oversight
and Investor Protection
As discussed fully in the Proposing
Release, the Proposed Rules would
253 See
supra section V.B.1.
Proposing Release at 15618.
255 See id. at 15586.
256 See LeXpunK Letter at 14.
257 See id. at 15618.
258 See supra section V.B.1.
254 See
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enhance regulatory oversight and
investor protection by extending the
requirements related, among other
things, to broker-dealer registration,
transaction reporting, safeguarding
subscribers’ confidential trading
information, recordkeeping and
reporting under Regulation ATS,
providing certain information on Form
ATS–R to the Commission, and filing
public Form ATS–N, to New Rule 3b–
16(a) Systems trading in securities of the
applicable asset classes.259 Of these
benefits, some are associated with rules
that apply to all securities, and the rest
are associated with rules that apply only
to securities of specific asset classes.
The Commission believes that benefits
associated with rules that apply to all
securities would accrue to market
participants trading crypto asset
securities in a manner similar to the
description in the Proposing Release,
and to a similar extent. The Commission
additionally believes that benefits
associated with rules applying only to
specific asset classes would accrue to
market participants trading crypto asset
securities of the appropriate asset type,
again in a similar manner and to a
similar extent as that described in the
Proposing Release.
b. Reduction of Trading Costs and
Improvements to Execution Quality
As discussed fully in the Proposing
Release, the Proposed Rules would help
enhance operational transparency,
reduce trading costs, and improve
execution quality for market
participants by requiring public
disclosure of Form ATS–N and applying
the Fair Access Rule to certain ATSs.260
The Commission believes that benefits
associated with these rules would
accrue to market participants trading
crypto asset securities of the appropriate
asset class, in the same manner and to
the same extent discussed in the
Proposing Release. However, because
some New Rule 3b–16(a) Systems
involve systems which run with an onchain component,261 and therefore may
operate using code that is, at least in
part, publicly viewable, it is possible
259 See id. at 15618–19. See also supra note 181
and accompanying text (explaining that the
Commission continues to assume that, under the
Proposed Rules, Newly Designated ATSs will
choose to register as broker-dealers and comply
with the conditions of Regulation ATS, rather than
register as national securities exchanges, and
therefore the costs analyzed here assume that such
systems will not register as national securities
exchanges).
260 See id. at 15620–21.
261 For example, the system may be run in part
by smart contracts deployed on a blockchain. See
supra section V.B.1.a for additional discussion of
such systems.
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29475
that the benefit of Form ATS–N
disclosures may be reduced for such
systems. However, because this code is
not disclosed in a standardized or
human-readable form, the Commission
believes that this reduction of impact
may not be significant.
c. Enhancement of Price Discovery and
Liquidity
As discussed fully in the Proposing
Release, the Proposed Rules would help
enhance the price discovery process and
liquidity in securities markets by
applying broker-dealer registration
requirements of Regulation ATS,
Regulation SCI, and the Capacity,
Integrity, and Security Rule (i.e., Rule
301(b)(6) of Regulation ATS) to certain
New Rule 3b–16(a) Systems.262 The
Commission believes that benefits
associated with these rules would
accrue to market participants trading
crypto asset securities of the appropriate
asset class, in the same manner and to
the same extent discussed in the
Proposing Release.
d. Electronic Filing Requirements
As discussed fully in the Proposing
Release, the Proposed Rules would
benefit market participants by
improving the usability, accessibility,
and reliability of the new disclosures,
by requiring a structured data language
and a publicly accessible filing location
for the applicable required
disclosures.263 Of these benefits, some
are associated with rules that apply to
all securities, and the rest are associated
with rules that apply only to securities
of specific asset classes. The
Commission believes that benefits
associated with rules that apply to all
securities would accrue to market
participants trading crypto asset
securities in a manner similar to the
description in the Proposing Release,
and to a similar extent. The Commission
additionally believes that benefits
associated with rules applying only to
specific asset classes would accrue to
market participants trading crypto asset
securities of the appropriate asset class,
again in the same manner and to the
same extent discussed in the Proposing
Release.
However, because some New Rule 3b–
16(a) Systems involve systems which
run with an on-chain component,264
and therefore may operate using code
that is, at least in part, publicly
viewable, it is possible that the benefit
262 See
id. at 15621–22.
id. at 15623.
264 For example, the system may be run in part
by smart contracts deployed on a blockchain. See
supra section V.B.1.a for additional discussion of
such systems.
263 See
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of Form ATS–N disclosures may be
reduced for such systems. However,
because this code is not disclosed in a
standardized or human-readable form,
the Commission believes that this
reduction of impact may not be
significant.
2. Costs
The Commission received comments
on the Proposing Release stating that the
Commission had not considered the
costs of the Proposed Rules to New Rule
3b–16(a) Systems that trade crypto asset
securities.265 In this section the
Commission is supplementing the
analysis of costs provided in the
Proposing Release with additional
analysis that details the extent and
manner in which the costs discussed in
the Proposing Release would apply to
New Rule 3b–16(a) Systems that trade
crypto asset securities.
The Commission is relying on the
analysis in the Proposing Release to
form the basis for its discussion of the
costs of Proposed Rules for systems
trading crypto asset securities.266 This is
because the Commission believes that
the functioning of New Rule 3b–16(a)
Systems that trade crypto asset
securities are broadly similar to the
functioning of other New Rule 3b–16(a)
Systems discussed in the Proposing
Release. The Commission preliminarily
believes that in some cases the costs of
compliance may be higher for New Rule
3b–16(a) Systems in the market for
crypto asset securities than for other
New Rule 3b–16(a) Systems. This is
because in some cases the market for
crypto asset securities utilizes different
technology and methods of operation 267
than is utilized in markets for noncrypto asset securities. In addition,
throughout the discussion in this
Reopening Release, the Commission has
a greater degree of uncertainty in its
analysis of the costs that the Proposed
Rules would impose on market
participants than it did in its discussion
of costs for non-crypto asset securities.
This is because the Commission has less
data on the functioning of the market for
crypto asset securities.268
In addition, the Commission has
received comments stating that entities
that trade crypto asset securities may
incur different compliance costs than
entities that trade traditional securities.
One commenter states that the analysis
provided in the Proposing Release were
based only on ‘‘traditional broker-dealer
business,’’ adding that they were not
aware of any broker-dealers that had
successfully registered under the
Commission’s framework for registering
‘‘digital-asset-only broker-dealers.’’ 269
There are also costs that are unique to
New Rule 3b–16(a) Systems that trade
crypto asset securities. These costs are
also the result of the use of different
technology and methods of operation in
some instances. These costs are
discussed in the sections below as
applicable. The Commission invites
comment on the costs of the Proposed
Rules for market participants in the
market for crypto asset securities.
a. Compliance Costs
Table V.1 provides estimates for the
aggregate compliance costs for New
Rule 3b–16(a) Systems that trade crypto
asset securities. These aggregate costs
reflect an estimate of 20 additional
affected New Rule 3b–16(a) Systems
that were not included in the estimates
provided in the Proposing Release,
which is the upper end of the
Commission’s estimate of the number of
affected systems. The Commission is
uncertain as to how precise these
estimates are because we lack sufficient
data on crypto asset securities.270
In both Table V.1 and the following
subsections, the Commission is relying
on the analysis in the Proposing Release
to form the basis for its discussion of
costs. The Commission preliminarily
believes that actual costs may be higher
than these estimates and discussions
express, due to the type of technology
and operations utilized in trading crypto
asset securities. Because it lacks certain
data, the Commission is unable to
provide an estimate as to how much
higher costs may be, but preliminarily
believes that these estimates and
discussions provide a useful lower
bound.
TABLE V.1—TOTAL IMPLEMENTATION COSTS AND OTHER COMPLIANCE COSTS AFFECTING ENTITIES THAT TRADE CRYPTO
ASSET SECURITIES NOT INCLUDED IN THE PROPOSING RELEASE
Aggregate
initial costs
Rule
Compliance action
Reg ATS, 301(b)(1) .........................
Reg ATS, 302 ..................................
Reg ATS, 303 ..................................
Form BD filing ...........................................................................................
Form ID filing .............................................................................................
Other compliance costs (non-PRA based) ...............................................
Form ATS filing .........................................................................................
Form ATS–R filing .....................................................................................
Written safeguards and procedures to protect subscribers’ confidential
trading information.
Recordkeeping ..........................................................................................
Record preservation ..................................................................................
Total ..........................................
....................................................................................................................
Reg ATS, 301(b)(2) .........................
Reg ATS, 301(b)(9) .........................
Reg ATS, 301(b)(10) .......................
a $18,000
d $6,000
b 1,000
c 6,320,000
e 1,154,000
f 128,000
g 30,000
........................
i 64,000
h 130,000
........................
........................
k 68,000
6,531,000
1,410,000
a This
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Aggregate
ongoing costs
j 20,000
l 2,000
cost figure is obtained by summing the initial implementation costs of Rule 301(b)(1)’s Form BD filing requirement for 20 New Rule 3b–
16(a) Systems that trade crypto asset securities not included in the Proposing Release. See Proposing Release at Table VIII.8.
b This cost figure is obtained by summing the initial implementation costs of Rule 301(b)(1)’s Form ID filing requirement for 20 New Rule 3b–
16(a) Systems that trade crypto asset securities not included in the Proposing Release. See Proposing Release at Table VIII.8.
c This cost figure is obtained by summing the other initial implementation costs (non-PRA based) associated with Rule 301(b)(1) for 20 New
Rule 3b–16(a) Systems that trade crypto asset securities not included in the Proposing Release. See Proposing Release at Table VIII.8.
d This cost figure is obtained by summing the ongoing implementation costs of Rule 301(b)(1)’s Form BD filing requirement for 20 New Rule
3b–16(a) Systems that trade crypto asset securities not included in the Proposing Release. See Proposing Release at Table VIII.8.
e This cost figure is obtained by summing the other ongoing implementation costs (non-PRA based) for 20 New Rule 3b–16(a) Systems that
trade crypto asset securities not included in the Proposing Release. See Proposing Release at Table VIII.8.
f This cost figure is obtained by summing the initial implementation costs of Rule 301(b)(2)’s Form ATS filing requirement for 20 New Rule 3b–
16(a) Systems that trade crypto asset securities not included in the Proposing Release. See Proposing Release at Table VIII.8.
265 See GDCA Letter II at 6; Crypto Council Letter
at 4; McHenry/Huizenga Letter at 2; Coinbase Letter
at 2; a16z Letter at 7.
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266 See
268 See
267 Such
id.
different technology may include, for
example, smart contracts.
269 See
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supra section V.B.1.
ADAM Letter II at 14.
270 See supra section V.B.1.
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g This cost figure is obtained by summing the ongoing implementation costs of Rule 301(b)(2)’s Form ATS filing requirement for 20 New Rule
3b–16(a) Systems that trade crypto asset securities not included in the Proposing Release. See Proposing Release at Table VIII.8.
h This cost figure is obtained by summing the ongoing implementation costs of Rule 301(b)(9)’s Form ATS–R filing requirement for 20 New
Rule 3b–16(a) Systems that trade crypto asset securities not included in the Proposing Release. See Proposing Release at Table VIII.8.
i This cost figure is obtained by summing the initial implementation costs of Rule 301(b)(10)’s requirement for written safeguards and procedures to protect subscribers’ confidential trading information, for 20 New Rule 3b–16(a) Systems that trade crypto asset securities not included in
the Proposing Release. See Proposing Release at Table VIII.8.
j This cost figure is obtained by summing the ongoing implementation costs of Rule 301(b)(10)’s requirement for written safeguards and procedures to protect subscribers’ confidential trading information, for 20 New Rule 3b–16(a) Systems that trade crypto asset securities not included in
the Proposing Release. See Proposing Release at Table VIII.8.
k This cost figure is obtained by summing the ongoing implementation costs of Rule 302’s recordkeeping requirement for 20 New Rule 3b–
16(a) Systems that trade crypto asset securities not included in the Proposing Release. See Proposing Release at Table VIII.8.
l This cost figure is obtained by summing the ongoing implementation costs of Rule 303’s record preservation requirement for 20 New Rule 3b–
16(a) Systems that trade crypto asset securities not included in the Proposing Release. See Proposing Release at Table VIII.8.
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Commenters express concern that the
Proposed Rules would include certain
crypto asset security entities that the
Commission had not considered, which
would increase costs beyond what was
estimated in the Proposing Release due
to the increase in the number of affected
entities.271 The Commission is now
including a rough estimate that the
Proposed Rules would include 15–20
New Rule 3b–16(a) Systems that trade
crypto securities that were not included
in the Proposing Release,272 along with
the associated costs.
One commenter expresses concern
that ‘‘persons who may merely write
open-source ‘communications protocol’
code or publish information about the
contents of communications systems
which they do not control’’ would be
included by the amended definition of
exchange.273 Another commenter
expresses similar concerns that ‘‘DeFi
developers’’ would be included by the
amended definition of exchange.274
Another commenter expresses similar
concerns that ‘‘persons who ‘make
available’ AMMs or interfaces for
utilizing AMMs may now be required by
the SEC to register those AMMs as ATSs
or securities exchanges.’’ 275 Another
commenter expresses concern that the
definition of exchange, as proposed to
be amended, might ‘‘capture developers
working with all manner of protocols,
front end systems, and smart
contracts.’’ 276 Two commenters include
smart contract code developers and
publishers, blockchain miners and
validators, providers of liquidity to
AMMs, website maintainers, and
blockchain client software developers as
examples of persons they believe might
271 See DeFi Education Fund Letter at 9, 17;
Crypto Council Letter at 5; Blockchain Association
Letter II at 7; LeXpunK Letter at 11; Chamber Letter
at 5.
272 See supra section V.B.1.c (discussing New
Rule 3b–16(a) Systems in the market for crypto
asset securities, and the Commission’s uncertainty
regarding this estimate).
273 See Delphi Digital Letter at 6.
274 See DeFi Education Fund Letter at 3, 9.
275 See Letter from Murray B. Wells, Attorney/
Partner, Wells Associates, PLLC, dated Apr. 18,
2022 (‘‘Wells Letter’’) at 2.
276 See LeXpunK Letter at 13.
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be inadvertently captured by the
definition of exchange, as proposed to
be amended.277 Another commenter
lists social networking websites, peer-topeer messaging applications, business
communication platforms, financial
information systems, blockchain
technology nodes, and smart contracting
platforms as examples of common retail
communication platforms that might be
required to register as an exchange
under the Proposed Rules, adding that
the proposal was likely to make
‘‘everyone involved in any securitiesrelated communications an exchange or
ATS.’’ 278 Another commenter states
that ‘‘any broker-dealer or non-brokerdealer that has systems related to
trading or communicating trading
interest in securities’’ might be included
by the Proposed Rules.279 This
commenter also lists validators,
developers of smart contracts, and
website operators as examples of
entities that might be included by the
Proposed Rules.280 Another commenter
states that the Proposed Rules might
cause ‘‘developers of code and smart
contracts related to a Decentralized
Protocol, or the maintainers of online
websites that merely enable access to a
Decentralized Protocol’’ to be captured
by the definition of exchange, as
proposed to be amended.281
The Commission believes that the
entities these commenters describe
would only be an exchange if they
constitute, maintain, or provide a
market place or facility that meets the
applicable criteria, and would only
incur compliance costs in connection
with their activities that constitute,
maintain, or provide that market place
or facility.
The Commission acknowledges that
there may be circumstances in which
the miners or validators of a blockchain
could incur costs under the Proposed
277 See
278 See
Wells Letter at 2; LeXpunK Letter at 14.
DARLA, GBC, and Global DCA Letter at
7.
279 See
a16z Letter at 7.
id. at 14.
281 See Blockchain Association Letter II at 6.
280 See
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Rules, and the Commission solicits
comment on any such costs.282
i. Implementation Costs
New Rule 3b–16(a) Systems that
would be newly subject to the
requirements of Regulation ATS would
incur implementation costs associated
with, among other things, written
safeguards and procedures to protect
subscribers’ confidential trading
information, recordkeeping, record
preservation, and Form ATS–R.283 The
Commission estimates that there are 15–
20 additional New Rule 3b–16(a)
Systems not included in the Proposing
Release that trade crypto asset
securities.284
Furthermore, New Rule 3b–16(a)
Systems that trade NMS stocks would
incur higher implementation costs due
to the heightened requirements of filing
Form ATS–N compared to New Rule
3b–16(a) Systems that would file Form
ATS.285 To the extent that any crypto
asset securities are NMS stocks, New
Rule 3b–16(a) Systems that trade them
would incur these higher costs. The
Commission estimates that no 286 New
Rule 3b–16(a) Systems currently trade
crypto asset securities that are NMS
stocks.
Current ATSs and New Rule 3b–16(a)
Systems that trade neither NMS stocks
nor government securities would incur
implementation costs associated with
re-filing or filing the modernized Form
ATS. Furthermore, all New Rule 3b–
16(a) Systems would incur
implementation costs to file the revised
electronic Form ATS–R. Current NMS
Stock ATSs would incur
implementation costs associated with
amending revised Form ATS–N. The
282 See supra notes 75–80 and accompanying text,
section II.B (discussing groups of persons under the
definition of exchange); infra section V.C.2.c.i.
283 See id. at 15627.
284 See supra section V.B.1.c (discussing New
Rule 3b–16(a) Systems in the market for crypto
asset securities, and the Commission’s uncertainty
regarding this estimate).
285 See id.
286 The Commission is uncertain as to the
accuracy of this estimate because we lack sufficient
data on the full set of securities traded in crypto
asset markets. See supra section V.B.1.
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Commission estimates that 15–20 287
New Rule 3b–16(a) Systems currently
trade crypto asset securities that are not
NMS stocks that were not included in
the Proposing Release, and no 288 New
Rule 3b–16(a) Systems currently trade
crypto asset securities that are NMS
stocks. To the extent that a current ATS
or New Rule 3b–16(a) System trades in
crypto asset securities generally or
crypto asset NMS stock specifically,
associated costs described in the
Proposing Release would be a lower
bound on costs incurred.289
Significant NMS Stock ATSs and
ATSs that trade corporate debt
securities, municipal securities, or
equity securities that are not NMS
stocks are subject to the Fair Access
Rule. The Commission estimates that
no 290 New Rule 3b–16(a) Systems that
trade crypto asset corporate debt
securities, municipal securities, NMS
stocks, or equity securities that are not
NMS stocks would be subject to the Fair
Access Rule.
Significant ATSs that trade corporate
debt securities or municipal securities
are subject to Rule 301(b)(6). The
Commission estimates that no 291 New
Rule 3b–16(a) Systems currently trade
corporate debt or municipal securities
that are crypto asset securities and
would meet the threshold of Rule
301(b)(6). To the extent that such an
entity exists, the Commission believes
that the implementation costs per entity
presented in the Proposing Release
would be a lower bound on costs
incurred.292
In the Proposing Release, the
Commission discussed estimates of
initial PRA burdens for new SCI entities
and ongoing PRA burdens for all SCI
entities.293 To the extent that any
significant New Rule 3b–16(a) System
trades in crypto asset securities that are
(i) NMS stocks or (ii) equity securities
that are not NMS stocks, and would
therefore be subject to Regulation SCI,
the Commission preliminarily believes
that the PRA burdens discussed in the
287 See supra section V.B.1.c (discussing New
Rule 3b–16(a) Systems in the market for crypto
asset securities, and the Commission’s uncertainty
regarding this estimate).
288 The Commission is uncertain as to the
accuracy of this estimate because we lack sufficient
data on the full set of securities traded in crypto
asset markets. See supra section V.B.1.
289 See id.; Table VIII.8.
290 The Commission is uncertain as to the
accuracy of this estimate because we lack sufficient
data on the full set of securities traded in crypto
asset markets. See supra section V.B.1.
291 The Commission is uncertain as to the
accuracy of this estimate because we lack sufficient
data on the full set of securities traded in crypto
asset markets. See supra section V.B.1.
292 See id.
293 See id.
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Proposing Release would be a lower
bound on costs incurred. The
Commission estimates that no 294 New
Rule 3b–16(a) Systems that trade crypto
asset securities that are NMS stocks or
equity securities that are not NMS
stocks would meet the applicable
thresholds to be subject to Regulation
SCI.
As discussed in the Proposing
Release,295 the Commission believes
that the fixed implementation costs
associated with Rule 301(b)(9) and (10),
Rule 302, and Rule 303 would represent
a larger fraction of revenue for a small
(measured in trading volume) ATS
relative to that for a large ATS. To the
extent that New Rule 3b–16(a) Systems
trade crypto asset securities, and are
therefore subject to these costs, the
Commission expects the fixed costs to
fall disproportionately on such lowervolume New Rule 3b–16(a) Systems.
As discussed in the Proposing
Release,296 the Commission believes
that the fixed implementation costs of
developing internal processes to ensure
correct and complete reporting on Form
ATS–N would represent a larger fraction
of revenue for a small (measured in
trading volume) ATS relative to that for
a large ATS. To the extent that New
Rule 3b–16(a) Systems trade crypto
assets that are NMS stocks, and are
therefore subject to these costs, the
Commission expects the fixed costs to
fall disproportionately on smaller such
New Rule 3b–16(a) Systems. However,
as in the Proposing Release, the
Commission expects that smaller New
Rule 3b–16(a) Systems that are not
operated by multi-service broker-dealer
operators and that generally do not
engage in other brokerage or dealing
activities in addition to their ATSs
would likely incur lower
implementation costs, because certain
sections of Form ATS–N, as proposed to
be amended, would not be applicable to
these New Rule 3b–16(a) Systems.
The Commission also believes that the
implementation costs associated with
Rule 304 would vary across New Rule
3b–16(a) Systems that are NMS Stock
ATSs depending on the complexity of
the ATS and the services that it offers.
As discussed in the Proposing Release,
the Commission believes that less
complex ATSs and ATSs that offer
fewer services would incur lower
implementation costs due to requiring
fewer burden hours to complete their
294 The Commission is uncertain as to the
accuracy of this estimate because we lack sufficient
data on the full set of securities traded in crypto
asset markets. See supra section V.B.1.
295 See Proposing Release at 15628.
296 See id.
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Forms ATS–N.297 The Commission
estimates that no 298 New Rule 3b–16(a)
Systems currently trade crypto assets
that are NMS stocks. To the extent that
any such New Rule 3b–16(a) System
exists, the Commission believes that this
would also be the case for such systems.
ii. Costs Associated With Broker-Dealer
Requirements
Under proposed Rule 301(b)(1), New
Rule 3b–16(a) Systems that are nonbroker-dealers (i.e., non-broker-dealeroperated New Rule 3b–16(a) Systems)
and trade crypto assets securities would
be subject to broker-dealer registration
requirements. Such an entity would
incur costs associated with brokerdealer registration, which include costs
related to registering with the
Commission as broker-dealers,
becoming members of an SRO,
maintaining broker-dealer registration
and SRO membership, and certain
broker-dealer requirements with respect
to maintaining net capital, reporting,
and recordkeeping. The Commission
estimates that roughly 15–20 299 such
New Rule 3b–16(a) Systems that trade
crypto asset securities not included in
the Proposing Release exist. The
Commission believes that the costs 300
discussed in the Proposing Release 301
for such entities would be a lower
bound on the costs incurred.
Furthermore, under section 4(a)(4) of
the Securities Act,302 a broker-dealer is
required to conduct a reasonable inquiry
into the facts surrounding the proposed
sale of a security by its customer to
determine whether the sale of the
security would violate section 5, such as
if there is no registration statement in
effect with the Commission as to the
offer and sale of the security, or there is
no applicable exemption from the
registration provisions available to the
customer. Upon registration as a brokerdealer, an entity could face liability
under section 5 of the Securities Act for
297 See
id. at 15628.
Commission is uncertain as to the
accuracy of this estimate because we lack sufficient
data on the full set of securities traded in crypto
asset markets. See supra section V.B.1.
299 See supra section V.B.1.c (discussing New
Rule 3b–16(a) Systems in the market for crypto
asset securities, and the Commission’s uncertainty
regarding this estimate).
300 As stated in the Proposing Release, the
Commission lacks information that would allow it
to provide estimates on certain restructuring related
costs for a non-broker-dealer-operated
Communication Protocol System that trades crypto
asset securities. Likewise, the Commission is unable
to estimate the costs of broker-dealer requirements
with respect to maintaining net capital, reporting,
and recordkeeping, as it lacks information on how
affected entities might change their current business
structures upon registering as a broker-dealer.
301 See Proposing Release at 15628–29.
302 See 15 U.S.C. 77d(a)(4).
298 The
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facilitating sales of securities on behalf
of its customers that would violate
section 5. To the extent a substantial
portion of this entity’s business is in the
sales of such securities, the Proposed
Rules would result in a significant loss
in revenue for the entity.
One commenter states that the
Commission’s estimates of compliance
costs, provided in the Proposing
Release, omitted the costs of joining
FINRA, which is a requirement for
becoming a registered broker-dealer.303
The commenter characterizes these
costs as representing ‘‘the lion’s share’’
of the time and effort needed to become
a broker-dealer. The Commission did
discuss these costs in the Proposing
Release,304 and believes that the
estimates provided there provide a
useful characterization, notwithstanding
the possibility that some costs may be
higher for entities that trade crypto asset
securities.305
The Commission believes that a New
Rule 3b–16(a) System not operated by a
broker-dealer would not incur
compliance costs associated with
registering as a broker-dealer and
becoming a member of an SRO (e.g.,
FINRA) if it has a broker-dealer
affiliate.306 The Commission believes
that this would also apply to a New
Rule 3b–16(a) System that trades crypto
asset securities. A broker-dealer affiliate
that is adding ATS or New Rule 3b–
16(a) System operations would incur
additional ongoing costs associated with
maintaining FINRA membership if
adding trading operations increases
revenue, the number of registered
persons or branch offices, trading
volume, or expands the scope of
brokerage activities. Furthermore, a
broker-dealer affiliate that is adding
ATS or New Rule 3b–16(a) System
operations could incur additional costs
associated with maintaining adequate
net capital level, reporting, and
recordkeeping depending on the
changes in business structure of the
broker-dealer. As in the Proposing
Release,307 the Commission is unable to
provide estimates on these additional
costs; however, the Commission
estimates that there are no 308 New Rule
3b–16(a) Systems not operated by a
303 See
Crypto Council Letter at 6.
304 See Proposing Release at Table VIII.8 and note
1120.
305 See supra section V.C.2.a.
306 See Proposing Release at 15629.
307 See id. at 15629.
308 The Commission is uncertain as to the
accuracy of this estimate because we lack sufficient
data on the full set of securities traded in crypto
asset markets. See supra section V.B.1.
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broker-dealer that are affiliated with an
existing broker-dealer.
iii. Costs Associated With the
Ineffectiveness Declaration
In addition to the implementation
costs associated with filing and
amending Form ATS–N, the
Commission preliminarily believes that
the proposed ability for the Commission
to declare an initial Form ATS–N or
Form ATS–N amendment ineffective
could result in direct costs for New Rule
3b–16(a) Systems that are NMS Stock
ATSs.309 However, the Commission
estimates that no 310 New Rule 3b–16(a)
Systems currently trade crypto asset
securities that are NMS stocks. To the
extent that such a New Rule 3b–16(a)
System exists, it would incur these
costs. However, the Commission
believes that there would not be a
substantial burden imposed in
connection with resubmitting an initial
Form ATS–N or a Form ATS–N
amendment or from an ineffective
declaration in general.311 The costs of
an ineffectiveness declaration would
encourage New Rule 3b–16(a) Systems
trading in these crypto asset securities
to initially submit a more accurate and
complete Form ATS–N and
amendments thereto, which would
reduce the likelihood that they are
declared ineffective.312 Additionally,
New Rule 3b–16(a) Systems that trade
NMS stocks, including those that are
crypto asset securities, would also be
able to continue operations pending the
Commission’s review of their initial
Form ATS–N. However, if after notice
and opportunity for hearing, the
Commission declares an initial Form
ATS–N filed by such a New Rule 3b–
16(a) System ineffective, the ATS would
be required to cease operations until an
initial Form ATS–N is effective.
iv. Costs Associated With the Fair
Access Rule
The Commission preliminarily
believes that complying with the Fair
Access Rule could result in compliance
costs (non-PRA based) for New Rule 3b–
16(a) Systems that trade NMS stocks
(including NMS Stock ATSs that would
no longer be excluded from Fair Access
compliance under Rule 301(b)(5)(iii) as
proposed),313 equity securities that are
309 See
id.
Commission is uncertain as to the
accuracy of this estimate because we lack sufficient
data on the full set of securities traded in crypto
asset markets. See supra section V.B.1.
311 See Proposing Release at 15630 (citation
omitted).
312 See id.
313 Today, based on public Form ATS–N filings,
no NMS Stock ATS operates pursuant to this
exclusion.
310 The
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not NMS stocks, corporate debt
securities, or municipal securities.314 If
a New Rule 3b–16(a) System must
change fee structures, order interaction
procedures, trading protocols, or access
provisions and adapt their operating
model due to the Fair Access Rule, it
would incur costs related to changing
business operations.315 To the extent
that a New Rule 3b–16(a) System trades
in crypto asset securities that fall into
any of the above-mentioned categories,
the Commission believes that it would
incur costs related to these changes as
described in the Proposing Release. As
in the Proposing Release, the
Commission lacks data that would be
used to quantify the costs related to
these changes. The Commission
estimates that no 316 New Rule 3b–16(a)
Systems currently trade crypto asset
securities that are NMS stocks, equities
that are not NMS Stocks, corporate debt,
or municipal securities.
As discussed in the Proposing
Release,317 the Proposed Rules would
aggregate volume across affiliated ATSs
in calculating the fair access volume
thresholds. This would mean affiliate
ATSs that otherwise do not meet the
relevant volume thresholds may be
subject to the Fair Access Rule. As
discussed above, if ATSs must adapt
their operating models as a result of
being subject to the Fair Access Rule,
those ATSs would incur costs related to
changing business operations. The
Commission estimates that no current
affiliate ATS that trades NMS stocks,
equity securities that are not NMS
stocks, corporate debt securities, or
municipal securities, that are crypto
asset securities, and does not already
currently meet the fair access volume
thresholds would meet the thresholds if
volume is aggregated across affiliated
ATSs.
v. Costs Associated With Rule 301(b)(6)
As discussed in the Proposing
Release,318 in addition to the
implementation costs associated with
reporting outages and recordkeeping
under the proposed Rule 301(b)(6), the
Commission preliminarily believes that
significant New Rule 3b–16(a) Systems
that trade corporate debt securities or
municipal securities could incur
compliance costs (non-PRA based) to
ensure adequate capacity, integrity, and
security with respect to those systems
314 See
id.
id.
316 The Commission is uncertain as to the
accuracy of this estimate because we lack sufficient
data on the full set of securities traded in crypto
asset markets. See supra section V.B.1.
317 See Proposing Release at 15630–31.
318 See id. at 15631.
315 See
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that support order entry, order routing,
order execution, transaction reporting,
and trade comparison. To the extent that
a New Rule 3b–16(a) System trades in
crypto assets that are corporate debt
securities or municipal securities, and
does not currently meet the standards
under the proposed rule, they would
incur compliance costs as described in
the Proposing Release. The Commission
lacks information that would enable it
to reasonably estimate these costs, but
believes that the compliance costs
associated with Rule 301(b)(6) would be
significantly less than those of
Regulation SCI.319 Furthermore, the
Commission estimates that none 320 of
the New Rule 3b–16(a) Systems trading
crypto asset securities would meet the
applicable volume requirements and be
subject to the requirements of Rule
301(b)(6).
vi. Costs Associated With Regulation
SCI
New Rule 3b–16(a) Systems that meet
certain volume thresholds and trade
crypto asset securities that are (i) NMS
stock or (ii) equity securities that are not
NMS stocks, would incur compliance
costs (non-PRA based costs) as SCI
entities, including both initial and
ongoing costs. The Commission believes
that, to the extent that there exist New
Rule 3b–16(a) Systems trading crypto
asset securities that are equity
securities, including NMS stocks, the
costs described in the Proposing
Release 321 would be a lower bound on
cost incurred. The Commission
estimates no 322 New Rule 3b–16(a)
Systems that trade crypto asset
securities would be subject to
Regulation SCI.
The Commission also believes that
some New Rule 3b–16(a) Systems’
participants required to participate in
the testing of business continuity and
disaster recovery plans would incur
Regulation SCI-related connectivity
costs. The Commission believes that
$10,000 apiece would be a lower bound
on such costs.323 However, because the
319 See
id. at 15631 n.1138 and accompanying
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text.
320 The Commission is uncertain as to the
accuracy of this estimate because we lack sufficient
data on the full set of securities traded in crypto
asset markets. See supra section V.B.1.
321 See id.; section VIII.C.2.a.vi.
322 The Commission is uncertain as to the
accuracy of this estimate because we lack sufficient
data on the full set of securities traded in crypto
asset markets. See supra section V.B.1. See also
Securities Exchange Act Release No. 97143 (Mar.
15, 2023), available at https://www.sec.gov/rules/
proposed/2023/34-97143.pdf. The Commission
encourages commenters to review that Regulation
SCI proposal to determine whether it might affect
their comments on this Reopening Release.
323 See id.
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Commission estimates that no New Rule
3b–16(a) Systems that trade crypto asset
securities would be subject to
Regulation SCI, no such participants
would incur these costs.
The Commission believes that the
costs to comply with Regulation SCI
discussed above would also fall on
third-party vendors employed by New
Rule 3b–16(a) Systems to provide
services used in their SCI systems.324 To
the extent that a vendor provides
services to an ATS that trades crypto
asset securities that are equity
securities, including NMS stocks, it
would incur these costs. However,
because the Commission estimates that
no New Rule 3b–16(a) Systems that
trade crypto asset securities would be
subject to Regulation SCI, no such
vendors would incur these costs.
b. Indirect Costs
The Commission believes that the
Proposed Rules could result in indirect
costs for market participants and certain
New Rule 3b–16(a) Systems that trade
crypto asset securities.325
i. General Indirect Costs
In the following discussion, the
Commission is relying on the analysis in
the Proposing Release to form the basis
for our discussion of these costs. The
Commission preliminarily believes that
actual costs may be higher than these
discussions express, due to the
technology and operations utilized in
trading crypto asset securities. The
Commission is unable to provide a
discussion as to how much higher costs
may be, but preliminarily believes that
the discussions below provide a useful
lower bound.
The public disclosure requirements of
Form ATS–N under the proposal could
generate indirect costs for some
subscribers by causing New Rule 3b–
16(a) Systems that trade NMS stock to
stop sharing information that they might
currently offer to only some
subscribers.326 Form ATS–N would
require NMS Stock ATSs to publicly
disclose any platform-wide order
execution metrics that they share with
any subscriber. To avoid publicly
disclosing this information, an ATS
might stop sharing the information with
subscribers. The trading costs of
subscribers that currently use this
information to help make trading
decisions would likely increase if the
information is no longer available to
324 See
id. at 15632.
infra section V.C.3 for discussions about
the economic effects of the Proposed Rules
specifically pertaining to competition, efficiency,
and capital formation.
326 See id.
325 See
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them. To the extent that a subscriber
trades using a New Rule 3b–16(a)
System that trades crypto assets that are
NMS stocks and receives such
information, the subscriber would incur
these indirect costs. As discussed in the
Proposing Release, the Commission
anticipates that this risk might be low
due to commercial incentives that may
induce ATSs to continue disclosing this
information.327
The Commission believes that the
public disclosure of Form ATS–N
would generate indirect costs, in the
form of transfers, for some subscribers of
New Rule 3b–16(a) Systems that trade
NMS stock who might currently have
more information regarding some ATS
features, such as order priority and
matching procedures, than other
subscribers.328 The public disclosure of
these features would reduce informed
subscribers’ information advantage over
other subscribers on such New Rule 3b–
16(a) Systems and increase their trading
costs. In this regard, the Commission
recognizes that this effect would be a
transfer to those subscribers who would
receive the proposed information, from
those subscribers who currently
exclusively receive such information.
To the extent that a New Rule 3b–16(a)
System trades in crypto asset securities
that are NMS stocks, such transfers
might occur among their subscribers.
Some New Rule 3b–16(a) Systems that
trade NMS stock would experience
indirect costs from the public disclosure
of Form ATS–N to the extent that this
form would reveal information to
competitors.329 If such a New Rule 3b–
16(a) System in part relies on certain
operational characteristics (e.g., order
types, trading functionalities) to attract
customer order flow and generate
trading revenues, it is possible that the
public disclosure of these characteristics
in Form ATS–N would make it easier
for other trading venues to adopt the
operational characteristics, which
would lower trading volume and reduce
revenue of the disclosing New Rule 3b–
16(a) System. Such costs to the
disclosing entity would constitute
transfers to competing ATSs rather than
a net cost to the market. To the extent
that a New Rule 3b–16(a) System trades
any crypto assets that are NMS stocks,
it might experience these transfers
described in the Proposing Release.
Furthermore, because some New Rule
3b–16(a) Systems involve systems
which run with an on-chain
327 See
id.
id.
329 See id.
328 See
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component,330 and therefore may
operate using code that is, at least in
part, publicly viewable, it is possible
that the adverse impact of these
disclosures may be reduced, for such
systems. However, because this code is
not disclosed in a standardized or
human-readable form, the Commission
believes that this reduction of impact
may not be significant.
The Commission believes that the risk
of these transfers is low because it is not
likely the responsive information to
Form ATS–N, as proposed to be
amended, would include detailed
enough information regarding
operational facets such that the public
disclosure of the information would
allow another ATS to replicate the
functionality to the extent it would
adversely affect the competitive position
of the disclosing ATS in the market.331
The Commission believes that New
Rule 3b–16(a) Systems that trade NMS
stocks (including NMS Stock ATSs that
would no longer be excluded from Fair
Access compliance under Rule
301(b)(5)(iii) as proposed), equity
securities that are not NMS stocks,
corporate debt securities, or municipal
securities could indirectly experience
costs in the form of lost revenue if they
meet or exceed the Fair Access Rule
thresholds and need to alter their
business model to comply with the
requirements of the Fair Access Rule.332
To the extent that any crypto asset
securities fall into these categories, the
Commission believes that a New Rule
3b–16(a) System that trades in them,
including NMS Stock ATSs that trade
crypto asset securities that are NMS
stocks and would no longer be excluded
from Fair Access compliance under
Rule 301(b)(5)(iii) as proposed, might
incur these costs discussed in the
Proposing Release.
As discussed in the Proposing
Release,333 the Commission believes
that market participants could incur
indirect costs related to New Rule 3b–
16(a) Systems that trade NMS stocks
(including NMS Stock ATSs that would
no longer be excluded from Fair Access
compliance under Rule 301(b)(5)(iii) as
proposed), equity securities that are not
NMS stocks, corporate debt securities,
or municipal securities, being subject to
the Fair Access Rule. To the extent that
a New Rule 3b–16(a) System (including
NMS Stock ATSs that would no longer
be excluded from Fair Access
330 For
example, the system may be run in part
by smart contracts deployed on a blockchain. See
supra section V.B.1.a for additional discussion of
such systems.
331 See id.
332 See id.
333 See Proposing Release at 15633.
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compliance under Rule 301(b)(5)(iii) as
proposed) trades in crypto assets that
fall into any of the above categories of
security, market participants that trade
on such platforms might experience
transfer costs through the same chain of
events described in the Proposing
Release.
Compared to larger and more
established New Rule 3b–16(a) Systems
trading in crypto assets, it is possible
that younger New Rule 3b–16(a)
Systems rely more on providing catered
services, including more advantageous
access, to specific clients or a clientele,
in order to grow their businesses.334 If
being subject to the Fair Access Rule
prohibits these New Rule 3b–16(a)
Systems from doing this, these New
Rule 3b–16(a) Systems could restrict
trading on their systems when they are
close to meeting the volume thresholds
under the Fair Access Rule.335 As in the
Proposing Release, to the extent that the
market for trading services is
competitive, the Commission believes
this may not result in a significant
increase in trading costs for market
participants, because the order flow that
was being sent to those New Rule 3b–
16(a) Systems would likely be absorbed
and redistributed amongst other New
Rule 3b–16(a) Systems or other
venues.336 However, if a New Rule 3b–
16(a) System that is the sole provider of
a niche service limits the trading in
certain securities to avoid being subject
to the Fair Access Rule, it could be more
difficult for some market participants to
find an alternative trading venue for that
niche service, which would result in a
larger increase in trading costs.337 To
the extent that a New Rule 3b–16(a)
System trades in crypto assets that are
securities, the Commission expects
these costs to apply to such a New Rule
3b–16(a) System as described in the
Proposing Release.
As discussed in the Proposing
Release,338 the Proposed Rules apply
certain aggregate volume thresholds to
the Fair Access Rule in the markets for
corporate debt and municipal securities
and equity securities, which could also
cause market participants to incur
similar indirect costs. If the aggregate
volume of ATSs operated by a common
broker-dealer or operated by affiliated
broker-dealers approaches the Fair
Access volume thresholds, then the
operators could restrict trading in one or
more securities on their systems in
order to avoid being subject to the
requirements of the Fair Access Rule.339
Market participants could also incur
indirect costs from the Proposed Rules
to apply certain aggregate volume
thresholds to the Fair Access Rule if it
causes a broker-dealer or affiliated
broker-dealers that operate multiple
ATSs to shut down one or more of their
smaller ATSs in order to avoid
triggering the Fair Access threshold.340
This could cause market participants
that subscribed to one of the shutdown
platforms to incur search costs to find
another venue to trade on.341 To the
extent that there exist crypto assets that
fall into one of the above asset classes,
and are traded on ATSs, the
Commission believes that these indirect
costs could apply as discussed in the
Proposing Release.
As discussed in the Proposing
Release,342 the Commission believes
that market participants could incur
indirect costs related to applying
Regulation SCI to New Rule 3b–16(a)
Systems in the market for crypto asset
equity securities and applying Rule
301(b)(6) to New Rule 3b–16(a) Systems
in the market for crypto asset corporate
debt securities or municipal securities.
If such a New Rule 3b–16(a) System is
close to satisfying the volume
thresholds of Regulation SCI or Rule
301(b)(6), it could limit the trading in
certain securities on its systems to stay
below the volume thresholds in order to
avoid being subject to Regulation SCI or
Rule 301(b)(6).343 As discussed above,
the Commission believes that in general
this would not necessarily lead to
higher trading costs, but to the extent
this occurs for a New Rule 3b–16(a)
System that is the sole provider of a
niche service, some market participants
would incur higher trading costs.
Additionally, in order to stay below
the volume thresholds under Regulation
SCI or Rule 301(b)(6), a New Rule 3b–
16(a) System could break itself up into
smaller New Rule 3b–16(a) Systems.344
If this results in its subscribers changing
their administrative and operational
procedures (e.g., means of access,
connectivity, order entry), the
subscribers would incur costs associated
with making those administrative and
operational changes to utilize the
ATS(s), or otherwise incur search costs
to find another venue to trade.345 To the
extent that there exist crypto assets that
fall into one of the applicable asset
339 Id.
340 Id.
334 Id.
341 Id.
335 Id.
342 Id.
336 Id.
343 Id.
337 Id.
344 Id.
338 Id.
345 Id.
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classes, and are traded on New Rule 3b–
16(a) Systems, the Commission believes
that these costs could apply as
discussed in the Proposing Release.346
ii. Costs Associated With the Proposed
Functional-Test-Based Exchange
Definition
The proposed functional-test-based
exchange definition could result in
increased legal costs for market
participants. Specifically, the Proposed
Rules could cause market participants to
engage in a more thorough and
expansive compliance review of any
changes in operations out of concern
that a large range of activities might
meet the proposed definition of
exchange. This approach could also
increase uncertainty about the
application of the Proposed Rules,
which in turn may further increase legal
costs.
In addition, market participants
would decrease and slow down the
development of new products and
technologies. Such development may
depend on the ability to rapidly develop
and deploy new systems. The need for
more extensive compliance review,
uncertainty about the application of the
Proposed Rules,347 and concerns that
new systems may inadvertently meet
the definition of exchange 348 could
make such a process more difficult.
Market participants may come to regard
some areas of new product development
as inherently risky, because of the
potential for regulatory costs, and
decide to stop engaging in them.
One commenter states that the
uncertainty caused by the expanded
definition of exchange in the Proposed
Rules ‘‘. . . is concerning and likely to
stifle innovation.’’ 349 Another
commenter states that the uncertainty of
exposure to enforcement actions might
stifle innovation.350 While the
Commission does not believe that
innovation will be impossible under the
Proposed Rules, we acknowledge that
there could be less innovation as a
result of the uncertainty and compliance
346 See
id.
commenter agrees with assessment. See
DARLA, GBC, and Global DCA Letter at 6 (stating
that the broad language in the Proposed Rules ‘‘. . .
would likely cause chilling effects and deter further
innovation and activity among early-stage
technology companies due to uncertainty over
which technology services would satisfy the new
and expanded definition of exchange.’’)
348 One commenter expresses such concerns,
stating ‘‘[w]e have significant concern that a lack of
a specific definition for such a broadly explained
term will cause ongoing confusion and, as a result,
increase the potential for a market participant to
inadvertently run afoul of the obligations set forth
in the Proposals.’’ See Chamber Letter at 4.
349 See McHenry/Huizenga Letter at 2.
350 See LexPunK Letter at 2.
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costs associated with the broad
formulation of the Proposed Rules.
iii. Costs Associated With
Discontinuation of Non-Security-forSecurity Pairs Trading
Many crypto asset securities are not
traded in exchange for fiat currencies
but are instead traded for other crypto
assets. To the extent that a New Rule
3b–16(a) System enables the trading of
crypto asset securities for crypto assets
that are not securities, that entity may
also incur the cost of having to stop
enabling such trades, and the resulting
loss of revenue. Because pairs trading is
common in crypto asset markets, this
cost may be significant for some New
Rule 3b–16(a) Systems. These costs may
be mitigated if affected New Rule 3b–
16(a) Systems are able to arrange for a
fiat currency market for the relevant
crypto asset security, and a separate fiat
currency market in a separate entity for
the non-security crypto asset, so that it
can arrange for a pair of trades to take
place that closely replicates the desired
trade. For systems that wish to complete
the transaction entirely on-chain, such
arrangements are likely to be
impossible, and this mitigation would
therefore not apply to them.
Furthermore, because existing
national securities exchanges and ATSs
currently do not facilitate trading
between crypto asset securities and nonsecurity crypto assets, the loss of New
Rule 3b–16(a) Systems as platforms for
engaging in such trades may be a
significant cost for market participants
in crypto asset markets. The inability to
complete such trades using New Rule
3b–16(a) Systems could require market
participants to switch to other means of
trading, such as bilateral voice trading.
To the extent such trading methods are
not the market participant’s preferred
method, this would increase trading
costs. Market participants may be able
to mitigate these costs if New Rule 3b–
16(a) Systems are able to provide cash
markets for the relevant crypto assets,
and arrange for a pair of trades that
would closely replicate the desired
exchange.
c. Costs for Platforms Using Certain
Technologies
The Commission preliminarily
believes that there may be costs
associated with complying with the
Proposed Rules for New Rule 3b–16(a)
Systems that would perform exchange
activities using certain technologies that
are used in the market for crypto asset
trading services.351 The Commission is
351 One commenter on the Proposing Release
states that due to the ‘‘decentralized and
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unable to provide an exact estimate or
quantitative range for these compliance
costs, because the Commission lacks
sufficient detail about the variety of
platforms whose systems use these
technologies, or their options to comply.
In the following subsections the
Commission provides a range of
compliance costs related to
responsibilities for compliance, as well
as a discussion of the factors associated
with certain technologies that might
increase the compliance costs of certain
specific requirements. It is possible that
operating a system that uses these
technologies to perform exchange
activities under the Proposed Rules in a
manner that complies with applicable
regulations could significantly reduce
the extent to which the system is
‘‘decentralized’’ or otherwise operates in
a manner consistent with the principles
that the crypto asset industry commonly
refer to as ‘‘DeFi.’’
i. Initial Costs of Compliance
The Commission preliminarily
believes that some New Rule 3b–16(a)
Systems that trade crypto asset
securities may incur greater initial costs
to come into compliance, due to these
systems’ use of certain technologies
that, for example, allow them to
automate portions of their operations
using smart contracts deployed on an
underlying blockchain.352 The
Commission believes that there are a
range of such technologies, or a range of
systems’ use of such technologies, that
would entail differing initial costs, and
has prepared a description of two
scenarios that we preliminarily believe
covers the range of costs likely to
occur.353 These scenarios consist of an
example of a system that would likely
have the lowest possible costs of
compliance for a system using such
technologies, and an example of a
hypothetical system in which the cost of
compliance is likely to be the highest
possible. The Commission preliminarily
believes that the initial compliance
costs of the typical New Rule 3b–16(a)
System that performs exchange
autonomous nature of Decentralized Protocols, and
the lack of an intermediary who could serve as a
broker-dealer affiliate,’’ the Proposed Rules would
impose significant burdens that had not been
considered. See Blockchain Association Letter II at
8. The Commission believes that the general costs
described throughout section V.C.2 as applicable,
and the specific costs discussed in this subsection,
provide the necessary consideration of such
burdens.
352 These technologies include, but are not
limited to, system architectures that permit RFQ
systems to be run partly or wholly on-chain using
smart contracts.
353 Providing an estimate corresponding to every
hypothetically possible design of systems using
such technologies would be impractical.
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activities using such technologies would
fall in between the costs associated with
these two examples. The Commission
requests comment on the issue of
compliance costs of New Rule 3b–16(a)
Systems that operate in this manner.
At the low end of the range, the
Commission preliminarily believes a
New Rule 3b–16(a) System that
performs exchange activities using these
technologies may incur similar costs to
those of a New Rule 3b–16(a) System
that does not use such technologies.354
This lower bound is based on
consideration of a hypothetical system
using such technologies in a way that
the Commission believes would tend to
present the least difficulty in complying
with the Proposed Rules. This low-cost
hypothetical case consists of a New Rule
3b–16(a) System that would automate a
portion of its operations using a set of
smart contracts 355 that it developed and
deployed itself; would have the sole
right and means 356 to make alterations
to the deployed smart contracts; would
receive any fees charged by the smart
contracts, as well as any fees collected
in connection to the service through
other means; and would maintain all
off-chain operations that might be
necessary to run the service.
In this case, the Commission believes
the responsibility to bring such a New
Rule 3b–16(a) System into compliance
may fall to this firm and that under such
circumstances, the cost of compliance
would be similar to that of a New Rule
3b–16(a) System that does not automate
any portion of its operations using a
smart contract, as detailed in sections
V.C.2.a and V.C.2.b above. In particular,
any alterations that may need to be
made to the smart contracts connected
with the system in order to bring it into
compliance with the relevant
regulations could be implemented in a
manner similar to alterations made to
software generally, due to the firm’s
control over those smart contracts.
The Commission preliminarily
believes that a New Rule 3b–16(a)
System that performs its exchange
activities in part using smart contracts,
but that is not set up in the manner
described above, may have significantly
higher costs of compliance than the
lower bound. The Commission is unable
to provide a quantitative estimate of an
upper bound because the Commission
354 See supra section V.C.2.a and V.C.2.b covering
these costs.
355 See supra section V.B.1.a discussing smart
contracts for DeFi platforms and their management.
356 Possession of the sole means to make
alterations to a smart contract could consist of a
design in which changes may be made to the smart
contract’s code by using a unique private key, and
where that key is in the sole possession of the firm.
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lacks information on the costs of the
activities which may be necessary for
more complex systems using such
technology to come into compliance.357
The Commission preliminarily believes
that a reasonable case, in which the
highest possible compliance costs
would result, would be a New Rule 3b–
16(a) System that performs exchange
activities in part using smart contracts,
but in which control over changes to the
smart contracts is given to a token-based
voting mechanism, which may use
governance tokens as discussed
above,358 and where the tokens are
dispersed among a large number 359 of
investors.
In this scenario, the Commission
believes that the holders of the
governance tokens, or other tokens that
carry voting rights, may bear the
responsibility of ensuring the
compliance of the system. In such a
scenario, the Commission believes that
the holders of the relevant tokens could
choose to form an organization or
association, or to designate a member of
a group of persons, which would be
responsible for undertaking the
activities necessary to bring the New
Rule 3b–16(a) System into compliance
with Regulation ATS.
The costs to produce such an
organization or association, or to
designate a member of a group of
persons may involve the effort required
on the part of the relevant token holders
to coordinate and reach agreement on
the design of such an organization,360
legal expenses associated with the
design and legal registration of the
entity, or costs involved with
designating a member of the group of
persons responsible for ensuring
compliance. If the relevant tokens of a
smart contract entitle their holders to a
share of transaction fees paid to the
357 In particular, the Commission does not have
examples of systems using such technology that are
registered with the Commission as an exchange or
as an ATS. See supra section V.B.2.
358 See supra note 15.
359 ‘‘Large’’ could mean millions of retail
investors, each with some share in the vote
determined by the number of tokens they hold. One
prominent DeFi platform has approximately 755
million outstanding tokens, each with a share in
governance votes. See Curve DAO, CoinGecko,
available at https://www.coingecko.com/en/coins/
curve-dao-token. The Commission understands
that, while protocols may have a large number of
outstanding governance tokens, control of those
tokens (or their voting rights) may be held by a
limited number of entities.
360 The Commission believes that this may be a
difficult undertaking, given the potentially large
number of individuals and entities that would have
to reach agreement. Such entities may also lack the
sophistication or resources required to easily
navigate the process of forming such an
organization or association and coming into
compliance.
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smart contract, or some other form of
return, these expenses could be paid
using such returns; otherwise, the
holders of the tokens themselves may
have to supply the necessary funds.
Also, because changes to the smart
contracts would require a vote, the
Commission preliminarily believes that
the process of implementing any
changes to the smart contracts that are
required for compliance may be more
costly than in the case where a single
firm holds all control.
It is possible that, when it becomes
necessary for the holders of relevant
tokens to form an organization or
association, or to designate a member of
a group of persons, some of those
holders might choose to sell their tokens
to avoid taking on regulatory burdens,
which the Commission expects would
ultimately result in there being fewer
holders of the governance tokens. The
Commission does not have the data it
would need to estimate the extent to
which this would happen, but to the
extent that this process significantly
reduces the number of holders of a
smart contract’s governance tokens, the
Commission expects that the costs of
compliance for such a smart contract
would fall between the two extremes
already discussed.
The Commission believes that there is
a third configuration of smart contract
management which may have costs
either inside the range described above
or outside this range. This is the
configuration entailed by a New Rule
3b–16(a) System that would automate
all of its operations via smart contracts
that are immutable. This immutability
makes it impossible to alter the code of
a smart contract using the typical
processes of a public blockchain once it
has been deployed, even by the entity
responsible for its deployment and
responsible for bringing such a system
into compliance. However, the
Commission understands that it is
possible for the miners or validators of
a smart contract’s underlying
blockchain to effect a change to a
blockchain through, for example, a fork
that would impact interactions with the
immutable smart contract, and that this
capacity has already been used on rare
occasions.361
In this case, the costs would depend
on the specific factual circumstances,
including, among other considerations,
the activities performed by persons that,
for example, could fund or code changes
to the blockchain, or validate or mine
361 See, e.g., https://spectrum.ieee.org/ethereumblockchain-forks-to-return-stolen-funds, discussing
how miners of a major public blockchain ‘‘forked’’
the chain to change an undesired result.
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the transactions, or some combination
thereof.362 It is possible that in this case
costs may exceed the upper bound
described above.363 The Commission is
uncertain as to the exact size of the costs
that may be involved and requests
comment on the issue.
In addition, the Commission
preliminarily believes that in a
circumstance in which only validators
or miners are able to stop effectuating
transactions that trigger the automated
operations of a smart contract, the
validators or miners may discontinue
processing transactions resulting from
trading interest matched by the New
Rule 3b–16(a) System. In the event that
validators or miners choose to
discontinue processing such
transactions, there may be costs to
market participants associated with
arranging to direct their trading interest
to other venues. If instead miners or
validators incur costs by choosing to
continue processing transactions of such
a system, the Commission preliminarily
believes that they may pass on some of
these costs to users, as described
above.364 It may also be the case that
even if the miners or validators as a
whole opt to effect a change to a
blockchain or smart contracts, some
miners or validators could choose to
cease processing transactions of a
blockchain.
The Commission is not aware of a
specific example of a New Rule 3b–16(a)
System which automates all of its
operations by means of immutable smart
contracts. However, the Commission has
limited information on such systems
and requests comment on this issue.
One commenter describes ‘‘practical
considerations’’ that it believes might
mean that it was ‘‘not possible’’ for
certain systems, which they term
‘‘Decentralized Exchanges’’ or ‘‘DEXes,’’
to comply with the Proposed Rules.365
These considerations include the fact
that, once launched, smart contracts
‘‘are not controlled or intermediated by
any person or group of persons,’’ 366 and
in particular, that responsibility for the
system could not be attributed to the
persons who created or deployed the
smart contract because ‘‘once deployed,
the DEX typically cannot be
significantly altered or controlled by
any such persons.’’ 367
362 See
supra notes 75–80 and accompanying text.
Commission preliminarily believes that
costs may be higher for reasons that might include
technical difficulties that would not be encountered
when bringing a Rule 3b–16(a) System based on a
mutable smart contract into compliance.
364 See supra section V.C.2.a.
365 See Coinbase Letter at 7.
366 See id. at 6.
367 Id.
The Commission preliminarily
believes that our analysis adequately
addresses these concerns. Specifically,
smart contracts can be controlled after
deployment, however, in some
instances, the functions of miners or
validators may be needed to exert such
control. The discussion above provides
a range of possible scenarios that have
different possible costs and may result
in different entities being affected, but
the Commission believes that these
costs are not impossible to pay.368
Another commenter states that the
compliance burdens imposed by the
Proposed Rules ‘‘may simply be
insurmountable due to the
incompatibility of the decentralized
nature of Decentralized Protocols with
the requirement for a centralized,
regulated intermediary imposed by the
‘exchange’ definition.’’ 369 This
commenter also states that ‘‘it is unclear
how [persons related to Decentralized
Protocols] could achieve compliance
with the relevant regulations.’’
The Commission acknowledges that,
in the case of New Rule 3b–16(a)
Systems that use the technologies
discussed above to automate portions of
their operations using smart contracts,
validators and miners may choose to
take actions to form a single entity, like
an organization, and register with the
Commission. The Commission
preliminarily believes that our analysis,
given above, adequately addresses these
concerns of control over the smart
contract, which entities may incur the
costs of compliance, and how large
those costs may be. However, the
Commission acknowledges that these
costs may cause some or all of the
entities that make available such a
system to cease the activities that make
them responsible for the system’s
compliance, potentially resulting in the
system’s exit from the market.
Another commenter raises concerns
about potential impossibility of limiting
certain systems’ activity to nonsecurities trading in the event that the
creators of the system wish to avoid
having to comply with federal securities
laws, stating that it would be impossible
for any ‘‘organization, group or
association’’ to ensure no securities are
made available for trading on such a
system.370
The Commission acknowledges that
there may be existing New Rule 3b–
363 The
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368 As discussed above, these costs may be high
enough that the group of persons responsible for the
exchange choose to exit the market for crypto asset
security trading services rather than continue
operations. See infra section V.C.3.a (discussing
entry and exit as result of compliance costs).
369 See Blockchain Association Letter II at 8.
370 See Delphi Digital Letter at 7.
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16(a) Systems, with smart contracts
designed to permit anyone with access
to the blockchain to begin trading in any
crypto asset supported by the
blockchain, including those that are
securities. In such circumstances, the
smart contract(s) may have to be altered
in order to ensure that the system does
not trade securities. As discussed above,
this could be achieved either by any
organization, association, or group of
persons that can make changes to the
smart contract, or by the miners or
validators of the relevant blockchain in
the event that the smart contracts are
immutable.
Because of the easily accessible nature
of many public blockchains, the
Commission preliminarily believes that
construction, deployment, and
maintenance of a New Rule 3b–16(a)
System that uses the technologies
described above could be achieved by
groups of persons who are
unsophisticated participants in financial
markets and may not appreciate the
significance of maintaining a system
that meets the definition of exchange as
proposed to be amended and therefore
of having obligations to comply with the
relevant securities laws. The
Commission believes that the costs of
compliance for such persons would be
higher because of their lack of
experience with federal securities laws.
Some such persons may choose to
discontinue their systems rather than
bear the costs of compliance.
ii. Unique Costs for Systems Using
Certain Technologies
The Commission preliminarily
believes that certain New Rule 3b–16(a)
Systems may have difficulties in
complying with some rules. The New
Rule 3b–16(a) Systems which may have
such difficulties are systems which use
technologies that, for example, allow
them to automate portions of their
operations using smart contracts
deployed on an underlying blockchain.
The rules for which there may be such
difficulties include Regulation SCI, as
well as the Fair Access Rule of
Regulation ATS. Systems that use these
technologies may have difficulties in
complying with these rules when
compared with platforms that do not
use such technologies. For example,
there may be difficulties in ensuring the
compliance of SCI systems that run
using DLT, such as smart contracts.
One commenter states that the
realities of decentralization make
compliance ‘‘impracticable’’ for certain
systems, which the commenter terms
‘‘DeFi.’’ 371 This commenter questioned
371 See
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what entity or group of entities involved
in the operation of such a system would
be responsible for complying with
Regulation ATS,372 and additionally
stated that even if this were clear, it was
not obvious that this party would have
the necessary information to fulfill that
responsibility.
The Commission discusses above that
a DLT-based market place or facilities
for bringing together buyers and sellers
of securities is typically maintained or
provided by a single organization but a
combination of the actors can constitute,
maintain, or provide, together, a market
place for securities as a group of
persons, which would be considered an
exchange under section 3(a)(1) of the
Exchange Act and Rule 3b–16
thereunder.373 The Commission
acknowledges that there may be some
existing systems of this type designed in
such a way that the information
necessary to comply with the disclosure
requirements of Regulation ATS is not
possessed by any singular entity. In
such a case, the Commission believes
that the entities responsible for
compliance may find it necessary to
form an organization or designate a
member of the group of persons to be
responsible for compliance, as
discussed above,374 and that such an
organization or member of the group of
persons would be capable of collecting
the information necessary to comply. In
cases of a system using DLT, where
some or all of this information is not
already possessed by entities
responsible for compliance, the manner
in which the system functions may have
to be altered to make compliance with
registration requirements possible. As
discussed above,375 this could be
achieved by the organization or group of
persons responsible.
The Commission believes that access
to New Rule 3b–16(a) Systems that
make extensive use of DLT in their
operations may happen through
processes not common to systems that
do not make extensive use of such
technology. In this case, such a New
Rule 3b–16(a) System may have
significant challenges in ensuring
compliance with the Fair Access Rule of
Regulation ATS.
The challenges that may be faced by
New Rule 3b–16(a) Systems that make
extensive use of DLT in complying with
Regulation ATS and Regulation SCI may
impose significant costs. It is possible
that these costs may cause some such
systems to exit the market, or to
372 See
id. at 3, 14.
supra section II.B.
374 See supra section V.C.2.c.i.
375 See supra section V.C.2.c.i.
373 See
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restructure their technology to facilitate
a lower compliance cost. In addition,
compliance with the applicable
regulations may result in significant
alteration to the manner in which such
systems operate.
3. Efficiency, Competition, and Capital
Formation
a. Competition
The Commission believes that the
Proposed Rules could affect
competition. The Proposed Rules could
promote competition by requiring ATSs
and New Rule 3b–16(a) Systems to
operate on a more equal basis in the
market for crypto asset securities trading
services. The Fair Access Rule of
Regulation ATS could promote
competition in the market for trading
services in the applicable securities
markets.376 Furthermore, the public
disclosure of Form ATS–N could
promote competition and incentivize
innovation in the market for trading
services in the applicable securities
markets.377
Also, the costs of the Proposed Rules
associated with, among other things,
altering business practices to come into
compliance, becoming a broker-dealer,
filing Form ATS or Form ATS–N as
applicable, and complying with the Fair
Access Rule of Regulation ATS and
Regulation SCI as applicable could
result in higher barriers to entry and
reduction in the rate of adoption of new
technologies in the market for crypto
asset securities trading services.
Furthermore, the requirements of
broker-dealer registration, Form ATS,
and Form ATS–N could reduce
operational flexibility. The Commission
acknowledges that this reduction in
operational flexibility could, under
certain circumstances, make it more
difficult to innovate. That said, in
addition to the other benefits discussed
above,378 the Commission believes that
the proposed amendments would foster
competition by requiring current ATSs
and New Rule 3b–16(a) Systems to
operate on a more equal basis in the
market for trading services. This, in
turn, would help promote innovation.
To the extent that the Proposed Rules
result in significant costs for New Rule
3b–16(a) Systems, these systems could
exit the market for crypto asset
securities trading services. In particular,
to the extent that New Rule 3b–16(a)
376 See infra section V.C.3.a.i.e. for discussion
about the impact of the Fair Access Rules on
competition.
377 See infra section V.C.3.a.i.f for discussion
about the impact of public disclosure via Form
ATS–N under Rule 304 of Regulation ATS on
competition.
378 See supra section V.C.1
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Systems using certain technologies
incur higher costs,379 there may be a
higher chance of these New Rule 3b–
16(a) Systems exiting the market. As in
the Proposing Release, the Commission
lacks certain information necessary to
quantify the extent to which entities
that otherwise would seek to operate as
a trading venue in the market for crypto
asset securities would be dissuaded
from doing so.
However, the Commission believes
that these adverse effects on
competition could be mitigated to some
extent. To the extent that the market for
crypto asset securities trading services is
competitive and that a limited number
of New Rule 3b–16(a) Systems exit the
market, the adverse effect on overall
competition among trading platforms
would be mitigated to some extent
because the order flow that was being
sent to exiting New Rule 3b–16(a)
Systems would likely be absorbed and
redistributed amongst other New Rule
3b–16(a) Systems or systems that meet
the existing criteria of Rule 3b–16(a).380
One commenter states that regulating
‘‘DeFi protocols or CPSs (or related
parties)’’ as exchanges might ‘‘operate as
a ban’’ due to the inability of those
entities to comply with registration
requirements.381 Another commenter
also states that the proposed
amendments might amount to a ‘‘backdoor prohibition of a vast swathe of
actual and potential peer-to-peer finance
protocols’’ due to the inability for some
entities to feasibly comply.382 Another
commenter states that ‘‘subjecting DeFi
systems to a regulatory regime that they
cannot comply with’’ could force them
into extinction.383
The Commission acknowledges that
the costs of compliance may be greater
for market participants that trade crypto
asset securities than for those that trade
non-crypto asset securities. However,
the Commission believes that the
additional costs of compliance
experienced by market participants that
trade crypto asset securities will vary
depending on the technologies these
participants use to perform exchange
activity. The Commission lacks some
information necessary to precisely
estimate the degree to which these
379 See
supra section V.C.2.c.
the extent that the market for trading
services is competitive, the adverse effect on
competition may not result in a significant increase
in trading costs for market participants because the
order flow that was being sent to those exiting New
Rule 3b–16(a) Systems would likely be absorbed
and redistributed amongst other New Rule 3b–16(a)
Systems or systems that meet the existing criteria
of Rule 3b–16(a).
381 See DeFi Education Fund Letter at 8.
382 See Wells Letter at 1.
383 See a16z Letter at 11.
380 To
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market participants may experience
greater costs of compliance, but expects
that such costs would fall within a
range. At the lower end of the range, the
Commission believes that market
participants that use technologies
similar to those commonly used in the
market for traditional securities, such as
off-chain RFQ systems, will also incur
similar costs of compliance. At the other
end of the scale, the Commission
expects that costs of compliance may be
significantly higher for market
participants that extensively or
exclusively use DLT, such as smart
contracts, to perform exchange
activities. Accordingly, while the
Commission acknowledges that the
Proposed Rules could raise barriers to
entry into the market for crypto asset
security trading services, the
Commission believes that these barriers
would be most significant for market
participants that perform exchange
activity in a way that extensively or
exclusively uses DLT. The Commission
additionally believes that for market
participants that perform exchange
activity using non-DLT methods, these
barriers would likely be comparable to
those experienced by participants in the
market for traditional securities trading
services.
One commenter states that the cost of
compliance and consequences of noncompliance would have the effect of
‘‘chilling, restricting or prohibiting
outright the creation of code for peer-topeer digital asset trading or websites
that provide access to information about
those protocols.’’ 384 Another
commenter states that, to the extent that
‘‘adoption of the Proposal will cause the
developers of code and smart contracts
related to a Decentralized Protocol, or
the maintainers of online websites that
merely enable access to a Decentralized
Protocol, to be captured under the
‘exchange’ definition,’’ the proposal
might cause such persons to cease their
activities, ‘‘dealing a death blow to new
activity in this sector.’’ 385
The Commission does not believe that
the amended definition of exchange
would include the entities responsible
for these ‘‘Decentralized Protocols’’,
except to the extent that they also
engage in activity that meets the
definition of exchange as proposed to be
amended in the Proposed Rules.386
While the Commission acknowledges
that the Proposed Rules may impose
compliance costs, the Commission does
not believe that the circumstances in
which such entities would incur
384 See
Delphi Digital Letter at 11.
Blockchain Association Letter II at 6.
386 See supra section V.C.2.a.
385 See
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compliance costs would differ from the
circumstances in which entities in noncrypto asset securities would incur
compliance costs, namely, at the point
at which such an entity engages in
activity that meets the definition of
exchange as proposed to be amended.
However, the Commission
acknowledges that because the
compliance costs for entities that trade
crypto asset securities may be higher
than for those that trade non-crypto
asset securities,387 the impact of those
costs on innovation in crypto asset
securities may be greater.
One commenter stated that the
Proposed Rules might ‘‘drive financial
innovation offshore.’’ 388 This
commenter also added that the
Proposed Rules ‘‘would preclude the
development in the U.S. of many
software tools and applications,
including, but not limited to, DeFi
protocols.’’ 389
The Commission acknowledges that,
to the extent that the Proposed Rules
impose compliance costs on entities
responsible for innovation, such costs
may affect their decision on which
jurisdiction they choose to operate their
business in. However, the Commission
believes that these costs may be
mitigated. The Commission believes
that, at the lower end of this range, an
entity that engages in the development
of new technologies in the market for
crypto asset trading services would
incur compliance costs only once its
innovative technology allows investors
to trade securities. If such an entity
develops its technology in an
environment that does not enable
investors to trade securities, such as a
testnet,390 the Commission does not
believe it would incur compliance costs
in connection with these activities.
Additionally, while the Commission
lacks certain data that would enable the
Commission to precisely estimate the
compliance costs that an innovative
entity would face once its innovative
technology enables investors to trade
crypto asset securities, it believes that
these costs would lie within a range. At
the lower end of this range, the
Commission believes that a market
participant that uses innovative
technology similar to technology that is
387 See
supra sections V.C.2.a and V.C.2.c.ii.
DeFi Education Fund Letter at 12.
389 See id. at 17.
390 This term refers to a blockchain designed to
test technologies, such as smart contracts, in a
manner that involves no risk of monetary loss.
Testnets support a set of tokens that are distinct
from ‘‘mainnet’’ tokens, and which are freely
available from ‘‘faucets’’ that add them to wallets
on request. As such, testnet tokens have no
monetary value and are not securities. See https://
coinmarketcap.com/alexandria/glossary/testnet.
388 See
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used in traditional financial markets
would also incur similar compliance
costs. At the other end of the scale, the
Commission expects that compliance
costs would be largest for entities
developing technologies that rely
heavily on DLT, such as smart contracts,
to perform exchange activity, and have
minimal or no off-chain components.
The Commission additionally believes
that many systems that would
experience these higher costs could be
restructured to make less extensive use
of these novel technologies, although
this could significantly reduce the
extent to which these systems operate in
accordance with ‘‘DeFi’’ principles.
One commenter states their belief that
the Proposed Rules would cause
platforms to either ‘‘operate exclusively
outside the United States or exit the
business,’’ due to lack of a ‘‘realistic
prospect of obtaining SEC authority to
operate as an exchange or SEC and
FINRA authority to operate as an
ATS.’’ 391 This commenter notes that the
Commission had not, at the time of
writing, ‘‘registered any digital asset
platform as an exchange.’’ 392
While the Commission acknowledges
that the Proposed Rules would impose
costs on New Rule 3b–16(a) Systems
that trade crypto asset securities, which
may in turn raise barriers to entry as
discussed above or create incentives to
exit the market, the Commission
disagrees that compliance would be
‘‘infeasible.’’ The Commission has
discussed, above, the manner and extent
to which it believes that compliance
costs may create barriers to entry for
market participants that seek to trade
crypto asset securities. To the extent
that market participants that trade
crypto asset securities face barriers to
entry or incentives to exit due to higher
compliance costs, or perceive this to be
the case, the Commission acknowledges
that such entities may instead choose to
operate outside the U.S. or exit the
market.
i. Regulation ATS
(a) Regulatory Framework
Market participants may consider
registered exchanges, ATSs, and brokerdealers (e.g., single dealer platforms) to
send their order flow in crypto asset
securities. As discussed in the
Proposing Release,393 to the extent that
current ATSs and New Rule 3b–16(a)
Systems compete, the proposed changes
to Exchange Act Rule 3b–16, which
would subject New Rule 3b–16(a)
Systems to the exchange regulatory
391 See
GDCA Letter II at 7.
id. at 13.
393 See Proposing Release at 15634.
392 See
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framework, which includes the option
to comply with Regulation ATS, would
promote competition by requiring
current ATSs and New Rule 3b–16(a)
Systems to operate on a more equal
basis in securities markets. The
Commission believes this to be the case
in the market for crypto asset securities
as it is in the market for the securities
discussed in the Proposing Release. To
the extent that registered exchanges,
ATSs, broker-dealers compete for order
flows in the crypto asset securities
market, the differential compliance
costs for exchange, ATS, and brokerdealer would affect competition across
these different types of trading
platforms. The Commission
acknowledges that national securities
exchanges would incur significantly
higher compliance costs than ATSs and
broker-dealers, and ATSs would incur
higher compliance costs than brokerdealers. Higher compliance costs could
put registered exchanges at a
disadvantage in competing against ATSs
and broker-dealers that trade the same
types of securities, and similarly put
ATSs at a disadvantage in competing
against broker-dealers. Although
registered exchanges, ATSs, and brokerdealers may compete for order flows,
they provide different services and are
subject to different regulatory
obligations. Furthermore, to the extent
that New Rule 3b–16(a) Systems that
use certain technologies to compete
with other New Rule 3b–16(a) Systems
for order flows, higher costs for New
3b–16(a) Systems that use certain
technologies would put such systems at
a competitive disadvantage against other
New Rule 3b–16(a) Systems.394
One commenter states that the
Proposed Rules would advantage
‘‘traditional financial services
companies,’’ due to ‘‘fundamentally
dissimilar technologies.’’ 395 This
commenter adds that the Proposed
Rules would ‘‘limit competition and
transparency by entrenching existing
market players’’ to the detriment of
investors and the public, but does not
specify who these existing market
players might be.396 The commenter
additionally states their concern that the
Proposed Rules might include in the
revised definition of exchange certain
entities that contribute code ‘‘to an
open-source project that subsequently
allows third parties to engage in trading
activity’’ but have no ability ‘‘to
supervise that activity or impose
394 See supra section V.C.2.c for discussion about
the additional costs for New 3b–16(a) Systems that
use certain technologies.
395 See DeFi Education Fund Letter at 2.
396 See DeFi Education Fund Letter at 10.
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limitations on the types of orders that
are entered.’’ The commenter states that
under the Proposed Rules, a developer
that cannot comply with registration
requirements might leave the market or
provide services to a traditional trading
platform, ‘‘further entrenching the
traditional systems.’’
The Commission does not believe that
the amended definition of exchange
would include the entities responsible
for innovation in the markets for crypto
assets or crypto asset trading services,
except to the extent that they also
engage in activity that meets the
definition of exchange as amended in
the Proposed Rules.397 The Commission
acknowledges that, to the extent that
market participants who trade crypto
asset securities compete with traditional
financial services firms and that such
market participants incur greater costs
of compliance,398 the Proposed Rules
could give traditional financial services
firms a competitive advantage. Because
the Commission lacks information on
the degree to which such market
participants would incur greater costs of
compliance, the Commission cannot
estimate the extent of this advantage.
Additionally, the Commission believes
that the Proposed Rules would cause
New Rule 3b–16(a) Systems to compete
on a more equal basis with their main
competitors in the market for crypto
asset securities, which the Commission
believes may already be subject to
federal securities regulations.399
As discussed in the Proposing
Release,400 the Commission
acknowledges that some New Rule 3b–
16(a) Systems could restructure their
operations to not meet the Rule 3b–16
criteria as proposed to be amended to
avoid being subject to Regulation ATS
and Regulation SCI if the requirements
are too burdensome or impair the ability
of the trading venue to compete. As in
the Proposing Release, the Commission
believes that the risk of this occurring
may be mitigated because the proposed
amendments to Rule 3b–16 may make it
difficult for New Rule 3b–16(a) Systems
to restructure their operations to not
meet the Rule 3b–16 criteria as
proposed to be amended. To the extent
this does occur, the benefits and
enhancements to competition discussed
above would be reduced. The
Commission believes that these effects
would apply to New Rule 3b–16(a)
Systems that trade in crypto asset
securities as they would to New Rule
3b–16(a) Systems that trade the
397 See
supra section V.C.2.a.
supra sections V.C.2.a and V.C.2.c.
399 See supra section II.B.
400 See Proposing Release at 15634.
398 See
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securities discussed in the Proposing
Release.
As discussed in the Proposing
Release,401 the Commission
acknowledges that subjecting New Rule
3b–16(a) Systems to the requirements of
Regulation ATS could reduce
operational flexibility. For example, it
would be more costly for New Rule 3b–
16(a) Systems to implement significant
changes to operational facets that would
be required to be reported on Form ATS
or Form ATS–N. This reduction in
operational flexibility could, under
certain circumstances, make it more
difficult to innovate. The Commission
believes this effect would apply to New
Rule 3b–16(a) Systems that trade crypto
asset securities in the same manner that
it would to New Rule 3b–16(a) Systems
that trade non-crypto asset securities
discussed in the Proposing Release.
However, as in the Proposing Release, in
addition to the other benefits discussed
above, the Commission believes that the
Proposed Rules could foster competition
by requiring current ATSs and New
Rule 3b–16(a) Systems to operate on a
more equal basis in the market for
crypto asset security trading services.
This, in turn, could help promote
innovation.
(b) Compliance Costs of Regulation ATS
To the extent that the costs 402
associated with altering business
practices for New Rule 3b–16(a)
Systems to come into compliance with
Regulation ATS are significant enough
to make these systems unprofitable,
these systems could exit the market for
crypto asset securities trading services,
adversely affecting competition.403 To
the extent that New Rule 3b–16(a)
Systems using certain technologies
incur additional costs to come into
compliance with Regulation ATS, these
systems could have a higher chance of
exiting the market for crypto asset
securities trading services.404
Furthermore, to the extent the Proposed
Rules result in a New Rule 3b–16(a)
System that trades less liquid securities
exiting the market for trading services,
it could increase the trading costs of its
401 See
id.
infra sections V.C.3.a.i.c) and V.C.3.a.i.d)
for discussions about the impact of costs associated
with Rule 301(b)(1) (broker-dealer registration
requirements) and Rule 301(b)(5) (the Fair Access
Rule) of Regulation ATS on competition,
respectively.
403 See supra sections V.C.2.b and V.C.2.c for
discussion about the costs associated with changing
business practices to come into compliance with
Regulation ATS.
404 See supra section V.C.2.c for discussion about
the additional costs associated with changing
business practices to come into compliance with
Regulation ATS for New Rule 3b–16(a) Systems that
use certain technologies.
402 See
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subscribers if they need to find a new
trading venue or are forced to go
through multiple intermediaries (i.e.,
broker-dealers) to find counterparties.
However, to the extent that the market
for crypto asset securities trading
services is competitive and that a
limited number of New Rule 3b–16(a)
Systems exit the market, the adverse
effect on overall competition among
trading platforms would be mitigated to
some extent.
Furthermore, the Commission
preliminarily believes that the
compliance costs associated with
Regulation ATS would have different
effects on the competitive position of
ATSs depending on their size. As a
result of the Proposed Rules, all New
Rule 3b–16(a) Systems would be subject
to Rule 301(b)(2), Rule 301(b)(9) and
Rule 301(b)(10), Rule 302, and Rule 303.
As discussed above 405 and in the
Proposing Release,406 most of the
estimated compliance costs associated
with these rules would be fixed costs to
those New Rule 3b–16(a) Systems
regardless of the amount of trading
activity that takes place on them, and
thus, these compliance costs would
represent a larger fraction of revenue for
a small (measured in trading volume)
New Rule 3b–16(a) System relative to
that for a large New Rule 3b–16(a)
System. Furthermore, most of the
estimated compliance costs associated
with the requirements of Form ATS–N
under Rule 304, which all New Rule 3b–
16(a) Systems that trade NMS stocks or
government securities would incur,
would be fixed costs.407 This could have
an adverse impact on New Rule 3b–
16(a) Systems of small size in competing
against larger ATSs, which could act as
a deterrent or a barrier to entry for
potential New Rule 3b–16(a) Systems or
result in small New Rule 3b–16(a)
Systems exiting the market for trading
services. However, if small New Rule
3b–16(a) Systems engage in providing
simpler services, these small New Rule
3b–16(a) Systems are likely to incur
lower compliance costs. The
Commission believes that these effects
would apply to the market for crypto
asset securities in the same manner that
they would to the market for non-crypto
asset securities.
The Commission acknowledges the
Proposed Rules could reduce
operational flexibility, which could,
under certain circumstances, make it
more difficult to innovate or reduce the
rate of the adoption of new
405 See
supra section VIII.C.2.a.i.
Proposing Release at note 1165.
407 See supra section VIII.C.2.a.i and Proposing
Release, section VIII.C.2.a.i.
406 See
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technologies. As in the Proposing
Release, the Commission believes that,
to the extent the Proposed Rules force
an entity that develops new
technologies to exit the market, it may
be able to restructure itself (rather than
operate as an ATS) as a third-party
vendor and continue to provide certain
innovative services, or otherwise sell its
technology to another ATS, which
would mitigate to some extent any
adverse impact the Proposed Rules may
have on the adoption of new
technologies in the market for crypto
asset security trading services.
(c) Broker-Dealer Registration
Requirements
In addition to the compliance costs
associated with the requirements of
Regulation ATS, non-broker-dealeroperated New Rule 3b–16(a) Systems
without a broker-dealer affiliate would
incur additional compliance costs
related to registering with the
Commission as broker-dealers,
becoming members of an SRO, such as
FINRA, and maintaining broker-dealer
registration and SRO membership.
Furthermore, these non-broker-dealer
operators could incur costs associated
with altering business practices to come
into compliance with the Proposed
Rules.408 To the extent that the costs
associated with changing business
practices to come into compliance with
the Proposed Rules is significant enough
to render non-broker-dealer operators of
New Rule 3b–16(a) Systems
unprofitable to stay in the business,
these operators of New Rule 3b–16(a)
Systems would exit adversely impacting
competition in the market for crypto
asset securities trading services.409
However, to the extent that the market
for crypto asset securities trading
services is competitive and that a
limited number of New Rule 3b–16(a)
Systems exit the market, the adverse
effect on overall competition would be
mitigated.
(d) Ineffectiveness Declaration
The proposed ability for the
Commission to be able to declare a Form
ATS–N or Form ATS–N amendment
ineffective could result in compliance
costs for New Rule 3b–16(a) Systems
that trade NMS stocks and may affect
competition in the market for NMS
408 See supra section V.C.2.a.ii for discussion
about the costs associated with changing business
practices to come into compliance with the
Proposed Rules.
409 The Commission believes that the costs
associated with the broker-dealer registration
requirements could adversely affect the rate of
innovation. See supra sections V.C.3.a.i and
V.C.3.a.i.c) for discussion about the impact of the
Proposed Rules on the rate of innovation.
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stock trading services. However, as
discussed in the Proposing Release,410
based on Commission staff’s experience
with NMS Stock ATSs that filed an
initial Form ATS–N, the Commission
preliminarily believes this would be an
unlikely result. The Commission
believes this unlikeliness would extend
to the market for crypto asset securities
that are NMS stocks.
(e) Fair Access
The Commission believes that
applying the Fair Access Rule to New
Rule 3b–16(a) Systems could increase
competition between market
participants in the markets for corporate
debt securities, municipal securities,
NMS stocks, and equity securities that
are not NMS stocks. As discussed above,
to the extent that there are market
participants currently excluded from
trading on significant New Rule 3b–
16(a) Systems, applying the Fair Access
Rule to New Rule 3b–16(a) Systems
could increase trading venue options
available to these market participants,
which could lower their trading costs.
This, in turn, could increase
competition among market participants
trading on these platforms, which could
be significant sources of liquidity and
represent a significant portion of trading
volume in their respective markets.
However, these competitive effects may
be reduced to the extent that some
existing subscribers of trading venues
that are subject to the Fair Access Rule
redirect their trading interest to other
trading venues not subject to the Fair
Access Rule in order to preserve some
of the benefits they may receive from a
trading venue limiting access. If the
Proposed Rules to apply certain
aggregate volume thresholds increase
the number of smaller affiliate ATSs
that would be subject to the Fair Access
Rule, it could also increase competition
among market participants, to the extent
that certain market participants are
currently excluded from accessing these
platforms. The Commission believes
that these effects on competition would
apply to New Rule 3b–16(a) Systems
that trade crypto asset securities in the
same manner that they would to New
Rule 3b–16(a) Systems that trade noncrypto asset securities.
Additionally, as discussed in the
Proposing Release, the Proposed Rules
to apply certain aggregate volume
thresholds to the Fair Access Rule could
also harm competition among trading
venues in the markets for corporate
debt, municipal securities, NMS stock
and equity securities that are not NMS
410 See Proposing Release at 15636 including
notes 1180 and 1183.
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stocks if they cause a broker-dealer or
affiliated broker-dealers that operate
multiple ATSs to restrict trading in one
or more securities, or shut down one or
more of their smaller ATSs, in order to
avoid triggering the Fair Access volume
threshold. However, because the trading
volume on these smaller ATSs would
likely be absorbed and redistributed
amongst other ATSs or non-ATS
venues, the Commission believes that
the overall effects on competition
among trading venues may not be
significant. To the extent that the
markets for trading services are
competitive, the Commission believes
that such competitive effects would be
applicable to New 3b–16(a) Systems that
trade crypto asset securities that are
corporate debt securities, municipal
securities, NMS stock, and equity
securities that are not NMS stocks.
(f) Public Disclosure
As discussed in the Proposing
Release,411 the public disclosure of
Form ATS–N would enhance the
operational transparency of New 3b–
16(a) Systems that trade in NMS stocks,
including crypto asset securities that are
NMS stocks. The enhancement in the
operational transparency of New Rule
3b–16(a) Systems would promote
competition in the markets for crypto
asset securities trading services. The
increase in competition could result in
lower venue fees, improve the efficiency
in customer trading interest or order
handling procedures, and promote
innovation. To the extent that non-ATS
venues compete with ATSs’ order flows,
the increased operational transparency
of ATSs could also incentivize non-ATS
trading venues to reduce their fees to
compete with ATSs. The Commission
believes that these effects would apply
to the market for crypto asset securities
trading services. However, because New
Rule 3b–16(a) Systems using smart
contracts operate using code which may
be, at least in part, publicly viewable, it
is possible that the impacts of Form
ATS–N disclosures on competition may
be reduced, for such systems. However,
because this code is not disclosed in a
form that is standardized or readable to
a layman, the Commission believes that
this reduction of impact may not be
significant.
As discussed in the Proposing
Release,412 because the public
disclosure of Form ATS–N would make
it easier for market participants to
compare the quality of trading services,
such as innovative trading
functionalities, order handling
procedures, and execution statistics,
market participants would be more
likely to send their trading interests or
orders to ATSs, including New 3b–16(a)
Systems, that offer better trading
services. This would promote greater
competition in the market for trading
services and incentivize ATSs to
innovate, including in particular,
technology related to trading services to
improve the quality of such services to
attract more subscribers. The
Commission believes these effects on
competition and innovation would
apply to ATSs trading in crypto asset
securities that are NMS stocks in the
same manner that they do to ATSs that
trade non-crypto asset securities.
As discussed in the Proposing
Release,413 the public disclosure of
Form ATS–N would also result in
market participants redirecting their
trading interest away from ATSs that
offer lower quality trading services
compared to other ATSs, which could
result in these ATSs earning less
revenue. If the loss in revenue causes
these ATSs to become unprofitable, they
might choose to exit the market. The
Commission believes these effects
would apply to ATSs trading in crypto
asset securities that are NMS stocks in
the same manner that they do to ATSs
that trade non-crypto asset securities.
As discussed in the Proposing
Release,414 the public disclosure of
previously nonpublic information
regarding innovative operational facets
of a New Rule 3b–16(a) System that
trades NMS stock could adversely
impact competition in the market for
trading services and also reduce the
incentives for these trading venues to
innovate. As in the Proposing Release,
the Commission believes that the risk of
these adverse effects occurring would be
low, because the information disclosed
on Form ATS–N is not likely to include
detailed enough information regarding
operational facets or innovations such
that the public disclosure would
adversely affect the competitive position
of the disclosing ATS. To the extent that
any crypto asset security is an NMS
stock, the Commission believes that
these effects would apply as described
in the Proposing Release to market
participants wishing to trade such a
security.
As discussed in the Proposing
Release,415 although the Commission
acknowledges that some NMS stock
ATSs could restructure their operations
to be non-ATSs to avoid being subject
to the public disclosure of Form ATS–
Proposing Release at 15637.
412 See id.
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id.
id. at 15638.
415 See id.
N, the risk of this occurring may be
mitigated because the proposed
amendments to Rule 3b–16 may make it
difficult for an ATS, including one that
trades crypto asset securities, to
restructure their operations to be nonATSs.
ii. Regulation SCI
The Commission believes that the
requirements imposed by Regulation
SCI may not have a significant adverse
effect on competition in the market for
crypto asset security trading services, or
on market participants’ trading costs in
the market for crypto asset securities.
As discussed in the Proposing
Release,416 the Commission believes
that the compliance costs imposed by
Regulation SCI may not have a
significant adverse effect on competition
among SCI ATSs, non-SCI ATSs, and
non-ATS venues in the NMS stock
market due to mitigating factors. If SCI
ATSs pass on the compliance costs to
their subscribers in the form of higher
fees, SCI ATSs would lose order flow or
their subscribers to other, non-SCI ATSs
and non-ATS venues with lower fees.
Adverse competitive effects, however,
would be mitigated because an SCI ATS
would likely have more robust systems,
fewer disruptive systems issues, and
better up-time compared to non-SCI
ATSs. Furthermore, any adverse
competitive effect may be minor if an
SCI ATS is large and has a more stable
and established subscriber base than
other ATSs and non-ATS venues. The
Commission expects these effects to
apply to ATSs trading in crypto asset
securities that are NMS stocks in the
same manner.
As discussed in the Proposing
Release,417 the compliance costs
associated with participating in
business continuity and disaster
recovery plan testing would affect
competition among subscribers of SCI
ATSs and also would raise barriers to
entry for new subscribers. Because some
subscribers would incur compliance
costs associated with Rule 1004 and
others would not, it would adversely
impact the ability for those subscribers
of SCI ATSs to compete. The
Commission expects these effects to
apply to ATSs trading in crypto asset
securities that are NMS stocks in the
same manner that they apply to ATSs
that trade non-crypto asset securities,
but as in the Proposing Release, the
Commission lacks sufficient information
to estimate the extent of impact on
competition. If larger subscribers of SCI
ATSs already maintain connections to
413 See
411 See
414 See
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416 See
417 See
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29489
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backup facilities including for testing
purposes, the adverse impact on
competition would be mitigated because
the incremental compliance costs
associated with the business continuity
and disaster recovery plan testing
requirements under Rule 1004 would be
limited for those larger subscribers. The
Commission believes that, in the market
for crypto asset securities as in the
market for non-crypto asset securities,
new subscribers are less likely to be
designated immediately to participate in
business continuity and disaster
recovery plan testing than are existing
larger subscribers because new
subscribers might not initially satisfy
the ATS’s designation standards as they
establish their businesses.
As discussed in the Proposing
Release,418 it is difficult to estimate the
costs of Regulation SCI for third-party
vendors that operate SCI systems or
indirect SCI systems on behalf of SCI
ATSs. If Regulation SCI imposes
compliance costs on such vendors, the
compliance costs would affect the
competition among third-party vendors
in the market for SCI systems or indirect
SCI systems. If the costs associated with
Regulation SCI for third-party vendors
outweigh the benefits of continuing to
operate SCI systems or indirect SCI
systems on behalf of SCI ATSs, these
third-party vendors would exit the
market for SCI systems or indirect
systems. In this respect, Regulation SCI
would adversely impact such vendors
and reduce the ability for some thirdparty vendors to compete in the market
for SCI systems and indirect SCI
systems, with attendant costs to SCI
ATSs. If this happens, SCI ATSs would
incur costs from having to find a new
vendor, form a new business
relationship, and adapt their systems to
those of the new vendor. SCI ATSs
might also elect to perform the relevant
functions internally. If the current thirdparty vendors are the most efficient
means of performing certain functions
for SCI ATSs, and to the extent that any
third-party vendor exits the market,
finding new vendors or performing the
functions internally would represent a
reduction in efficiency for SCI ATSs.
The Commission expects these effects to
apply to ATSs trading in crypto asset
securities that are NMS stocks, and their
vendors, in the same manner that they
apply to ATSs that trade non-crypto
asset securities.
b. Efficiency and Capital Formation
As discussed in the Proposing
Release,419 the Commission believes the
418 See
419 See
id.
Proposing Release at 15639.
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Proposed Rules could promote price
efficiency and capital formation by
reducing trading costs and the potential
for systems disruptions on ATSs that
capture a significant portion of trading
volume. As discussed in the Proposing
Release,420 the proposed requirement
for certain New Rule 3b–16(a) Systems
to publicly disclose Form ATS–N could
help reduce trading costs for market
participants. Subjecting significant New
Rule 3b–16(a) Systems to the Fair
Access Rule could also help reduce
market participants’ trading costs. A
reduction in trading costs could, in turn,
reduce limits to arbitrage and help
facilitate informed traders impounding
information into security prices, which
could enhance price efficiency.
Extending Regulation SCI and Rule
301(b)(6) would help improve systems
up-time for ATSs and would also
promote more robust systems that
directly support execution facilities,
order matching, and the dissemination
of market data, which could also
enhance price efficiency. The
Commission expects these effects to
apply to ATSs that trade crypto asset
securities in the same manner that they
apply to ATSs that trade non-crypto
asset securities.
Proposed Rules could also adversely
affect the price efficiency of crypto asset
securities. It may no longer be possible
for a New Rule 3b–16(a) System to
facilitate trading crypto asset securities
for crypto assets that are not securities.
To the extent that the markets for crypto
asset securities denominated in crypto
assets that are not securities reduce
transaction costs, market participants
would experience higher transaction
costs, reducing price efficiency, and
impeding the price discovery
process.421 Also, if ATSs restrict trading
volume in certain securities to stay
below the Fair Access Rule, Regulation
SCI, and Rule 301(b)(6) thresholds, it
could adversely affect price efficiency
and capital formation. The Commission
expects these effects to apply to ATSs
that trade crypto asset securities in the
same manner that they apply to ATSs
that trade non-crypto asset securities.
As discussed in the Proposing
Release,422 enhanced price efficiency
could also promote capital formation.
On the other hand, the Commission
believes that the proposed amendments
of the Fair Access Rule, Regulation SCI,
and Rule 301(b)(6) could also adversely
affect price efficiency and capital
420 See
id.
supra section V.C.2.b for discussion about
the costs associated with the trading of crypto asset
securities for crypto assets that are not securities on
Communication Protocol Systems.
422 See id.
421 See
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formation if ATSs that are close to
satisfying the volume threshold limit
trading over some period restrict trading
or cease operating to stay below the
volume thresholds and avoid being
subject to these rules. To the extent that
this keeps ATSs from getting larger, it
would increase fragmentation, and thus,
adversely affect price efficiency in those
markets, harming capital formation. The
Commission expects these effects to
apply to ATSs that trade crypto asset
securities in the same manner that they
apply to ATSs that trade non-crypto
asset securities.
D. Reasonable Alternatives
The Commission has considered
several alternatives to the Proposed
Rules: (1) delay subjecting New Rule
3b–16(a) Systems that exclusively trade
crypto asset securities to the Proposed
Rules; (2) subject only New Rule 3b–
16(a) Systems that trade government
securities to the Proposed Rules; (3)
subject only New Rule 3b–16(a) Systems
that trade fixed income securities to the
Proposed Rules; (4) exempt New Rule
3b–16(a) Systems that use only non-firm
trading interest from the Fair Access
Rule; (5) exempt New Rule 3b–16(a)
Systems that use only non-firm trading
interest from Regulation SCI; (6)
stipulate that systems offering non-firm
trading interest only meet the definition
of an exchange if they offer anonymous
interactions; and (7) use a more explicit
and prescriptive approach in defining
the type of non-firm trading interest
system that meets the definition of an
exchange.
1. Delay Subjecting New Rule 3b–16(a)
Systems That Exclusively Trade Crypto
Asset Securities to the Proposed Rules
As discussed above, the Commission
received comment, and is soliciting
comment, on the application of the
Proposed Rules to systems that trade
crypto asset securities. As an
alternative, the Commission could adopt
the proposed changes to Rule 3b–16(a),
but delay applying the changes to New
Rule 3b–16(a) Systems that trade crypto
asset securities.423
Importantly, this alternative of a
delayed compliance period would be
423 Alternatively, a delay could be implemented
for other types of securities. See supra section III.E.
As discussed above, for purposes of adopting a
different compliance date for New Rule 3b–16(a)
Systems that trade crypto asset securities, crypto
asset securities could be defined as, for example,
securities that are also issued and/or transferred
using distributed ledger or blockchain technology,
including, but not limited to, so-called ‘‘virtual
currencies,’’ ‘‘coins,’’ and ‘‘tokens,’’ to the extent
they rely on cryptographic protocols. The
Commission is soliciting comment on the
definition. See id.
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only with respect to the application of
the new rules. Notwithstanding
inclusion of this alternative of providing
a delayed compliance date with respect
to New Rule 3b–16(a) Systems that trade
crypto asset securities, the Commission
emphasizes that operators of trading
systems, including those trading crypto
asset securities, need to evaluate
whether they meet the criteria of
existing Exchange Act Rule 3b–16(a),
and thus must register as a national
securities exchange or operate pursuant
to an exemption to such registration, or
meet the definition of a ‘‘broker’’ or
‘‘dealer’’ that is required to register with
the Commission and become a member
of a self-regulatory organization. In this
regard, the Commission will continue to
evaluate whether currently operating
systems are acting consistently with
federal securities laws and the rules
thereunder.
Relative to the proposal, this
alternative would result in delayed
benefits and costs because market
participants that trade in crypto asset
securities using New Rule 3b–16(a)
Systems would not accrue benefits 424
and costs 425 discussed in sections V.C.1
and V.C.2 or in the Proposing Release
until the delayed compliance date.
Similarly, this alternative would result
in delayed effects on efficiency,
competition, and capital formation
discussed above.426
This alternative could result in
several additional effects. It may be that
New Rule 3b–16(a) Systems that trade in
both crypto asset securities and noncrypto asset securities would have the
incentive to separate crypto asset
securities trading, which would be
subject to the delay. This could reduce
efficiency. Relative to the proposal, New
Rule 3b–16(a) Systems that trade
exclusively in crypto asset securities
would enjoy a competitive advantage for
a longer period of time over New Rule
3b–16(a) Systems that trade both crypto
asset securities and securities that are
not crypto assets due to delayed
compliance costs. Furthermore, relative
to the proposal, to the extent that crypto
asset securities of any type of security
may be considered substitutes for non424 Affected benefits would include delayed
enhancements to regulatory oversight and investor
protection, delayed reductions of trading costs,
delayed improvements to execution quality, smaller
enhancements of price discovery and liquidity, and
delayed benefits from electronic filing requirements
as described above. See supra section V.C.1.
425 Affected costs would include delayed
implementation costs, delayed costs associated with
broker-dealer requirements, ineffectiveness
declaration, the Fair Access Rule, Rule 301(b)(6),
and Regulation SCI, and delayed indirect costs as
described above. See supra section V.C.2.
426 See supra section V.C.3.
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crypto asset securities of the same type,
and that platforms that trade such
crypto asset securities compete with
those that trade their non-crypto asset
security counterparts, the platforms that
trade crypto asset securities would
enjoy a competitive advantage over
those that trade non-crypto asset
securities.
2. Subject Only New Rule 3b–16(a)
Systems That Trade Government
Securities to the Proposed Rules
As an alternative, the Commission
considered subjecting only New Rule
3b–16(a) Systems that trade government
securities to the Proposed Rules. New
Rule 3b–16(a) Systems play a significant
role in the market for government
securities. One of the roles of these New
Rule 3b–16(a) Systems is to provide a
means to communicate trading interest
in the dealer-to-customer market. The
Commission understands that these
systems are a significant component of
the dealer-to-customer segment of
government securities market and
account for a significant portion of the
total trading volume in government
securities.427
Under this alternative, New Rule 3b–
16(a) Systems that trade securities other
than government securities would not
be subject to the Proposed Rules.
Relative to the proposal, this alternative
would result in smaller benefits and
costs as well as reduced effects on
efficiency, competition, and capital
formation. Market participants that
utilize New Rule 3b–16(a) Systems to
trade securities other than government
securities would not accrue benefits
from the requirements of Regulation
ATS discussed in the Proposing Release.
Under this alternative, relative to the
proposal, market participants trading in
securities other than government
securities would not accrue the benefits
of the Proposed Rules including the
enhancement in regulatory oversight
and investor protection, the reduction in
trading costs, and the enhancement of
price discovery and liquidity.428 In
addition, to the extent that ATSs and
New Rule 3b–16(a) Systems compete for
order flows in securities markets other
than government securities, ATSs
would not be able to compete against
New Rule 3b–16(a) Systems on a more
equal regulatory basis, which would
adversely impact competition relative to
the proposal. On the other hand, relative
to the proposal, the Commission
believes that reduced regulatory
requirements would help maintain
427 See
Proposing Release at 15601 and 15602.
supra section V.C.1 for discussion about
the benefits of the Proposed Rules.
428 See
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Fmt 4701
Sfmt 4702
29491
operational flexibility, which in turn,
would help promote innovations for
New Rule 3b–16(a) Systems that trade
securities other than government
securities. Furthermore, the
Commission believes that lower
compliance costs would help promote
competition in the market for trading
services with respect to non-government
securities relative to the proposal.
3. Subject Only New Rule 3b–16(a)
Systems That Trade Fixed Income
Securities to the Proposed Rules
As an alternative, the Commission
could consider subjecting only New
Rule 3b–16(a) Systems that trade fixed
income securities that are not crypto
asset securities 429 to the Proposed
Rules. New Rule 3b–16(a) Systems play
a significant role by providing means to
communicate trading interest in the
dealer-to-customer market in fixed
income securities trading. The
Commission understands that these
New Rule 3b–16(a) Systems account for
a significant portion of the total trading
volume in fixed income securities.430
Under this alternative, New Rule 3b–
16(a) Systems that trade securities other
than fixed income securities would not
be subject to the Proposed Rules.
Relative to the proposal, this alternative
would result in smaller benefits and
costs as well as reduced effects on
efficiency, competition, and capital
formation. Market participants that
utilize New Rule 3b–16(a) Systems to
trade securities other than fixed income
securities would not accrue benefits
from the requirements of Regulation
ATS discussed in the Proposing Release.
For example, market participants that
trade crypto asset securities via New
Rule 3b–16(a) Systems would not
benefit from investor protection
provisions of Regulation ATS. On the
other hand, relative to the proposal, the
Commission believes that reduced
regulatory requirements would help
maintain operational flexibility, which
in turn, would help promote
innovations for New Rule 3b–16(a)
Systems that trade securities other than
fixed income securities. Furthermore,
relative to the proposal, the Commission
believes that lower compliance costs
would help promote competition in the
market for trading services with respect
to non-fixed income securities.
429 Fixed income securities would include
government securities, corporate debt securities,
municipal securities, and asset-backed securities as
discussed in the Proposing Release.
430 See Proposing Release at 15601, 15602, 15605,
15606, 15607, and 15609.
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Federal Register / Vol. 88, No. 87 / Friday, May 5, 2023 / Proposed Rules
4. Exempt New Rule 3b–16(a) Systems
That Use Only Non-Firm Trading
Interest From the Fair Access Rule
As an alternative, the Commission
considered exempting New Rule 3b–
16(a) Systems that only use non-firm
trading interests from the Fair Access
Rule of Regulation ATS. Relative to the
proposal, significant New Rule 3b–16(a)
Systems that only use non-firm trading
interests would not incur the costs
associated with the Fair Access Rule,
which may potentially include
significant costs for altering business
practices to comply with the rule. On
the other hand, to the extent that there
are market participants who are
unreasonably denied access to
significant New Rule 3b–16(a) Systems
that only use non-firm trading interests,
the execution quality for these market
participants would be worse relative to
the proposal.
lotter on DSK11XQN23PROD with PROPOSALS3
5. Exempt New Rule 3b–16(a) Systems
That Use Only Non-Firm Trading
Interest From Regulation SCI
As an alternative, the Commission
considered exempting New Rule 3b–
16(a) Systems that only use non-firm
trading interests from Regulation SCI.
The requirements of Regulation SCI
would result in significant costs for
significant New Rule 3b–16(a) Systems.
Relative to the proposal, significant New
Rule 3b–16(a) Systems that only use
non-firm trading interests would not
incur the costs associated with
Regulation SCI, which could include
significant costs for establishing and
maintaining geographically diverse
backup facilities. This could promote
competition by lowering the barriers to
entry and reducing the incidences of
exit relative to the proposal. On the
other hand, relative to the proposal, the
frequency and severity of systems issues
could be higher and the duration of
systems issues could be longer, which
would harm price discovery and
adversely impact trading costs of market
participants.
6. Stipulate That Systems Offering NonFirm Trading Interest Only Meet the
Definition of an Exchange if They Offer
Anonymous Interactions
As an alternative, the Commission
considered excluding systems that only
use non-firm trading interests and do
not offer anonymous protocols 431 from
the definition of an exchange. Under
this alternative, many significant fully
disclosed dealer-to-customer RFQ
431 An anonymous protocol in this context means
that counterparties stay anonymous until the terms
(i.e., price and quality) of the trade is fixed between
the two counterparties engaged in a transaction.
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21:19 May 04, 2023
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platforms that trade fixed income
securities including government
securities, corporate debt securities, and
municipal securities would not meet the
definition of an exchange, and thus,
would not incur the costs associated
with the Proposed Rules. Furthermore,
lower costs would help promote
innovation in the market for securities
trading services relative to the proposal.
However, because this alternative would
exclude many significant trading
systems that would meet the definition
of exchange as proposed to be amended
that trade fixed income securities, the
benefits of the Proposed Rules would be
significantly reduced relative to the
proposal.
7. Use a More Explicit and Prescriptive
Approach in Defining the Type of NonFirm Trading Interest System That
Meets the Definition of an Exchange
As an alternative, the Commission
considered a more explicit and
prescriptive approach in defining an
exchange by providing a list of specific
types of systems that meet the definition
of an exchange (or, by providing a list
of specific types of systems that do not
meet the definition of an exchange).
Relative to the proposal, this approach
would reduce uncertainty and the costs
associated with the proposed activitybased definition of an exchange. A more
explicit and prescriptive definition of an
exchange could reduce legal costs
associated with complying with the
proposed activity-based definition of an
exchange.432 Furthermore, the reduction
in such costs could help promote
innovation in the market for securities
trading services. On the other hand, a
more explicit and prescriptive
definition of an exchange could make it
easier for a trading venue to modify its
systems to operate as a non-exchange,
which would not be subject to the
Proposed Rules. Relative to the
proposal, this would result in lower
benefits. For example, market
participants that utilize such trading
venues would not benefit from investor
protection provisions of Regulation
ATS.
E. Request for Comments
44. In the Proposing Release, the
Commission proposed to replace the
term ‘‘uses’’ with the term ‘‘makes
available’’ before ‘‘established, nondiscretionary methods’’ in Rule 3b–
16(a)(2) because the Commission
proposed to include as an established,
432 See also supra section V.C.2.b.ii for discussion
about the costs associated with complying with the
proposed functional-test-based definition of an
exchange.
PO 00000
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Fmt 4701
Sfmt 4702
non-discretionary method
communication protocols under which
buyers and sellers can interact and agree
to the terms of a trade.433 Would this
proposed change have costs for
developers of technology that are not
reflected in the economic analysis?
Would adopting alternative language
(such as ‘‘Uses established, nondiscretionary methods (whether by
providing, directly or indirectly, a
trading facility . . .),’’ ‘‘[E]stablishes
non-discretionary methods (whether by
providing, directly or indirectly, a
trading facility or . . .)’’) result in
different costs than the proposed
language? 434
45. Do commenters agree with the
Commission’s characterization of
platforms in the market for crypto assets
securities? Please provide any relevant
details that you believe are missing from
the Commission’s description.
46. Please provide any information on
the number and type of venues that
permit trading crypto asset securities for
fiat currency.
47. Do commenters agree with the
Commission’s characterization of the
technology used by systems in the
market for crypto assets securities?
Please provide any relevant details that
you believe are missing from the
Commission’s description.
48. Do commenters agree with the
Commission’s characterization of New
Rule 3b–16(a) Systems that trade crypto
asset securities? Please provide any
relevant details that you believe are
missing from the Commission’s
description.
49. Please provide any data on crypto
asset securities trading volume and
trading volume share of New Rule 3b–
16(a) Systems.
50. Please provide any information on
the types of protocols used by New Rule
3b–16(a) Systems that trade crypto
assets securities.
51. Do commenters agree with the
Commission’s characterization of other
methods (other than platforms) of
trading in the market for crypto assets
securities? Please provide any relevant
details that you believe are missing from
the Commission’s description.
52. Please provide any information on
the current market practice for bilateral
voice trading and electronic chat
messaging in trading crypto assets
securities.
53. Please provide any information on
the role of bilateral voice trading in the
market for crypto assets securities.
54. Do commenters agree with the
Commission’s characterization of crypto
433 See
Proposing at 15506. See also supra section
III.B.
434 See
E:\FR\FM\05MYP3.SGM
supra Requests for Comment #10–11.
05MYP3
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Federal Register / Vol. 88, No. 87 / Friday, May 5, 2023 / Proposed Rules
asset securities trading services? Please
provide any relevant details that you
believe are missing from the
Commission’s description.
55. Would the Proposed Rules
enhance regulatory oversight and
investor protection in the market for
crypto asset securities? Would requiring
New Rule 3b–16(a) Systems that trade
crypto asset securities to register as
broker-dealers help lead to these
benefits? Would the Proposed Rules
lead to improvements in the
safeguarding of confidential information
in the market for crypto asset securities?
56. Do commenters agree that the
Proposed Rules would reduce trading
costs and improve execution quality for
market participants that use New Rule
3b–16(a) Systems? Do commenters agree
that Regulation SCI would improve the
resiliency of New Rule 3b–16(a)
Systems in the applicable securities
markets? Do commenters agree that Rule
301(b)(6) would improve the resiliency
of such systems in the applicable
securities markets?
57. Are there any other benefits of
subjecting to the exchange regulatory
framework a New Rule 3b–16(a) System
which uses certain technologies that
allow them to run portions of their
operations using smart contracts
deployed on an underlying blockchain?
Please explain.
58. Do commenters agree with the
Commission’s assessment of the entities
that would incur costs in the crypto
asset security market as a result of the
Proposed Rules? If not, please provide
examples of additional entities that
would incur costs.
59. Do commenters agree with the
Commission’s assessment of the
implementation costs estimated in the
Reopening Release? If not, please
provide as many quantitative estimates
to support your position on costs as
possible.
60. Please provide any insights or data
on the costs associated with the
proposed broker-dealer requirements for
New Rule 3b–16(a) Systems that are
operated by non-broker-dealers.
61. The Commission solicits comment
on any circumstances in which actors
within a group of persons, which can
include, for example, the provider(s) of
the DeFi application or user interface,
developers of AMMs or other DLT code,
DAO, validators or miners, and issuers
or holders of governance or other
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21:19 May 04, 2023
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tokens, may incur costs in connection
with their activities that may constitute,
maintain, or provide a market place or
facilities for bringing together buyers
and sellers of securities under Exchange
Rule 3b–16, as proposed to be amended.
62. Do commenters agree with the
Commission’s assessment of the costs
for systems that use certain technology
and trade crypto asset securities as
described in section V.C.2.c? Please
explain.
63. Do commenters agree with the
Commission’s assessment that the
compliance costs associated with
bringing a New Rule 3b–16(a) System
that uses certain technologies that allow
them to run portions of their operations
using smart contracts deployed on an
underlying blockchain into compliance
may be greater than those for other
platforms that trade crypto asset
securities? If so, which costs do
commenters expect to be greater, and
why? Please explain and share any
relevant data.
64. Do commenters agree with the
Commission’s assessment of the costs
that may be associated with bringing a
New Rule 3b–16(a) System that uses
certain technologies that allow it to run
portions of its operations using smart
contracts deployed on an underlying
blockchain into compliance? Do
commenters believe that such costs
could be significant? Please explain and
share any relevant data.
65. Do commenters agree with the
Commission’s assessment of the initial
compliance costs for New Rule 3b–16(a)
Systems that use certain technologies
that allow them to run portions of their
operations using smart contracts
deployed on an underlying blockchain?
Please explain.
66. Do commenters agree with the
Commission’s assessment of the costs
that miners or validators may bear?
Please explain and share any relevant
data.
67. Please provide examples of
automation of New Rule 3b–16(a)
Systems by means of immutable smart
contracts.
68. Do commenters agree with the
Commission’s assessment of the impact
of the Proposed Rules on efficiency,
competition and capital formation? Do
commenters agree that the Proposed
Rules would allow for competition
among trading systems on a more equal
basis? Do commenters agree with the
PO 00000
Frm 00047
Fmt 4701
Sfmt 9990
29493
Commission’s assessment as to the risks
of increasing barriers to entry and
causing current trading systems to exit
the market? Please explain.
69. To what extent would the
Proposed Rules increase the barriers to
entry for new trading venues or cause
some existing trading venues to exit the
market? How would these effects vary
based on the size and/or type of trading
venue and the securities market in
which it operates? Please explain.
70. How would the Proposed Rules
affect innovation? Please explain.
Which provisions of the Proposed Rules
would affect innovation the most and
how? Please explain.
71. To what extent would the
Proposed Rules cause existing trading
venues to cease operating in the United
States, if at all? If the Proposed Rules
would have any such effect, which
provisions of the Proposed Rules would
be most responsible for this effect, and
how? Please explain and share any
relevant data.
72. Do commenters agree with the
Commission’s assessment of the effects
of an alternative to delay subjecting
New Rule 3b–16(a) Systems that
exclusively trade crypto asset securities
to the Proposed Rules?
73. Do commenters agree with the
Commission’s assessment of the effects
of an alternative to subject only New
Rule 3b–16(a) Systems that trade
government securities to the Proposed
Rules?
74. Do commenters agree with the
Commission’s assessment of the effects
of an alternative to subject only New
Rule 3b–16(a) Systems that trade fixed
income securities to the Proposed
Rules?
75. For purposes of determining
compliance with the Fair Access Rule
and Regulation SCI, an ATS must
determine its trading volume to assess
whether the ATS is subject to these
rules. Does an ATS have the ability to
obtain the necessary information to
calculate thresholds to determine if the
ATS is subject to Regulation SCI and
Regulation ATS? Why or why not?
By the Commission.
Dated: April 14, 2023.
J. Matthew DeLesDernier,
Deputy Secretary.
[FR Doc. 2023–08544 Filed 5–4–23; 8:45 am]
BILLING CODE 8011–01–P
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]]>Agencies
[Federal Register Volume 88, Number 87 (Friday, May 5, 2023)]
[Proposed Rules]
[Pages 29448-29493]
From the Federal Register Online via the Government Publishing Office [www.gpo.gov]
[FR Doc No: 2023-08544]
[[Page 29447]]
Vol. 88
Friday,
No. 87
May 5, 2023
Part III
Securities and Exchange Commission
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17 CFR Parts 232, 240, 242, et al.
Supplemental Information and Reopening of Comment Period for Amendments
Regarding the Definition of ``Exchange''; Proposed Rule
Federal Register / Vol. 88 , No. 87 / Friday, May 5, 2023 / Proposed
Rules
[[Page 29448]]
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SECURITIES AND EXCHANGE COMMISSION
17 CFR Parts 232, 240, 242, and 249
[Release No. 34-97309; File No. S7-02-22]
RIN 3235-AM45
Supplemental Information and Reopening of Comment Period for
Amendments Regarding the Definition of ``Exchange''
AGENCY: Securities and Exchange Commission.
ACTION: Proposed rule; reopening of comment period.
-----------------------------------------------------------------------
SUMMARY: The Securities and Exchange Commission (``Commission'') is
reopening the comment period for its proposal (``Proposed Rules'') to
amend the rule under the Securities Exchange Act of 1934 (``Exchange
Act'') that defines certain terms used in the statutory definition of
``exchange.'' The reopening provides supplemental information and
economic analysis regarding trading systems that trade crypto asset
securities that would be newly included in the definition of
``exchange'' under the Proposed Rules. The Commission is requesting
further information and public comment on certain aspects of the
Proposed Rules as applicable to all securities and the compliance dates
and other alternatives for the Proposed Rules. The Proposed Rules were
set forth in Release No. 34-94062 (``Proposing Release''), and the
related comment period, which was reopened in Release No. 34-94868 on
May 9, 2022, ended on June 13, 2022. The reopening of this comment
period is intended to allow interested persons further opportunity to
analyze and comment on the Proposed Rules in light of the supplemental
information provided herein (``Reopening Release'').
DATES: The comment period for the proposed amendments published on
March 18, 2022, at 87 FR 15496, which was initially reopened on May 12,
2022, at 87 FR 29059, is again reopened. Comments should be received on
or before June 13, 2023.
ADDRESSES: Comments may be submitted by any of the following methods:
Electronic Comments
Use the Commission's internet comment form (https://www.sec.gov/regulatory-actions/how-to-submit-comments); or
Send an email to [email protected]. Please include
File Number S7-02-22 on the subject line.
Paper Comments
Send paper comments to Secretary, Securities and Exchange
Commission, 100 F Street NE, Washington, DC 20549-1090.
All submissions should refer to File Number S7-02-22. 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 of submission. The Commission will post all
comments on the Commission's website (https://www.sec.gov/rules/proposed.shtml). Comments are also 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
a.m. and 3 p.m. Operating conditions may limit access to the
Commission's Public Reference Room. All comments received will be
posted without change. 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 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: Tyler Raimo, Assistant Director,
Matthew Cursio, David Garcia, Eugene Hsia, Megan Mitchell, Amir Katz,
Special Counsels, and Joanne Kim, Attorney Advisor, at (202) 551-5500,
Office of Market Supervision, Division of Trading and Markets,
Securities and Exchange Commission, 100 F Street NE, Washington, DC
20549.
SUPPLEMENTARY INFORMATION:
I. Background
A. Exchange Regulatory Framework
Exchange Act section 3(a)(1) states that the term ``exchange''
means any organization, association, or group of persons, whether
incorporated or unincorporated, which constitutes, maintains, or
provides a market place or facilities for bringing together purchasers
and sellers of securities or for otherwise performing with respect to
securities the functions commonly performed by a stock exchange as that
term is generally understood, and includes the market place and the
market facilities maintained by such exchange.\1\
---------------------------------------------------------------------------
\1\ See 15 U.S.C. 78c(a)(1).
---------------------------------------------------------------------------
Title 17 section 240.3b-16(a) (``Rule 3b-16(a)'') defines certain
terms in the definition of ``exchange'' under section 3(a)(1) of the
Exchange Act to include any organization, association, or group of
persons that: (1) brings together the orders for securities of multiple
buyers and sellers; and (2) uses established, non-discretionary methods
(whether by providing a trading facility or by setting rules) under
which such orders interact with each other, and the buyers and sellers
entering such orders agree to the terms of a trade.\2\ Title 17 section
240.3b-16(b) (``Rule 3b-16(b)'') explicitly excludes certain systems
from the definition of ``exchange.'' \3\ Title 17 section 240.3b-16
(``Rule 3b-16'') provides a functional test to assess whether a trading
platform meets the definition of exchange and, if so, triggers exchange
registration. Section 5 of the Exchange Act \4\ requires an
organization, association, or group of persons that meets the
definition of ``exchange'' under section 3(a)(1) of the Exchange Act,
unless otherwise exempt, to register with the Commission as a national
securities exchange pursuant to section 6 of the Exchange Act.\5\
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\2\ See 17 CFR 240.3b-16(a).
\3\ See Securities Exchange Act Release No. 40760 (Dec. 8,
1998), 63 FR 70844, 70852 (Dec. 22, 1998) (``Regulation ATS Adopting
Release''). Specifically, Rule 3b-16(b) excludes from the definition
of ``exchange'' systems that perform only traditional broker-dealer
activities, including: systems that route orders to a national
securities exchange, a market operated by a national securities
association, or a broker-dealer for execution, or systems that allow
persons to enter orders for execution against the bids and offers of
a single dealer if certain additional conditions are met. 17 CFR
240.3b-16(b).
\4\ 15 U.S.C. 78e. Registered national securities exchanges are
also self-regulatory organizations (``SROs''), and must comply with
regulatory requirements applicable to both national securities
exchanges and SROs.
\5\ 15 U.S.C. 78f.
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Title 17 section 240.3a1-1(a)(2) (``Rule 3a1-1(a)(2)'') exempts
from the Exchange Act section 3(a)(1) definition of ``exchange'' an
organization, association, or group of persons that complies with
Regulation ATS, which requires, among other things, meeting the
definition of an alternative trading system (``ATS'') and registering
as a broker-dealer.\6\ As a result of the exemption, an organization,
association, or group of persons that meets the definition of an
exchange and complies with Regulation ATS is not required by section 5
of the Exchange Act to register
[[Page 29449]]
as a national securities exchange pursuant to section 6 of the Exchange
Act, is not an SRO, and, therefore, is not required to comply with the
regulatory requirements applicable to national securities exchanges and
SROs.\7\
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\6\ ``Regulation ATS'' consists of 17 CFR 242.300 through
242.304 (Rules 300 through 304 under the Exchange Act).
\7\ An ATS that fails to comply with the requirements of
Regulation ATS would no longer qualify for the exemption provided
under Rule 3a1-1(a)(2), and thus, risks operating as an unregistered
exchange in violation of section 5 of the Exchange Act. See
Securities Exchange Act Release No. 83663 (July 18, 2018), 83 FR
38768, 38772 n.36 (Aug. 7, 2018) (``NMS Stock ATS Adopting
Release'').
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B. January 2022 Proposed Amendments to Exchange Act Rule 3b-16
As described more fully in the Proposing Release,\8\ the Commission
proposed to amend Exchange Act Rule 3b-16 to, among other things,
replace ``orders'' with ``trading interest'' and define ``trading
interest''; \9\ remove the term ``multiple'' before ``buyers and
sellers''; \10\ add ``communication protocols'' as an example of an
established, non-discretionary method that an organization,
association, or group of persons can provide to bring together buyers
and sellers of securities; simplify and align the rule text with the
statutory definition of ``exchange'' under section 3(a)(1) of the
Exchange Act; and add an exclusion under Exchange Act Rule 3b-16(b) for
systems that allow an issuer to sell its securities to investors.
---------------------------------------------------------------------------
\8\ See Securities Exchange Act Release No. 94062 (Jan. 26,
2022), 87 FR 15496 (Mar. 18, 2022). The Proposed Rules also: (1) re-
proposed amendments to Regulation ATS for 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 (``Government Securities ATSs''); (2) proposed amendments
to Form ATS-N for NMS Stock ATSs and Government Securities ATSs; (3)
proposed amendments to 17 CFR 242.301(b)(5) (``Rule 301(b)(5)'') of
Regulation ATS (``Fair Access Rule'') for ATSs; (4) proposed to
require electronic filing of and to modernize Form ATS and Form ATS-
R; and (5) re-proposed amendments to regulations regarding systems
compliance and integrity to apply to 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.
\9\ As proposed, ``trading interest'' (defined in proposed Rule
300(q) of Regulation ATS) would include ``orders,'' as the term is
defined under 17 CFR 240.3b-16(c) (``Rule 3b-16(c)''), 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. See Proposing Release at 15540.
\10\ The Commission proposed removing the word ``multiple'' from
Exchange Act Rule 3b-16(a)(1) to mitigate confusion as to its
application to non-firm trading interest, including request-for-
quote (``RFQ'') systems, and align the rule more closely with the
statutory definition of ``exchange,'' which does not contain the
word ``multiple'' but includes the plural terms ``purchasers and
sellers.'' See id. at 15506. The Commission also stated in the
Proposing Release that the use of plural terms in ``buyers and
sellers'' in Rule 3b-16(a) and ``purchasers and sellers'' in the
statutory definition of ``exchange'' makes sufficiently clear that
an exchange need only have more than one buyer and more than one
seller participating on the system to meet this prong. See id. at
15506 n.105.
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Specifically, the Commission proposed to amend Exchange Act Rule
3b-16(a) to include within the definition of ``exchange'' an
organization, association, or group of persons that constitutes,
maintains, or provides a market place or facilities for bringing
together buyers and sellers of securities or for otherwise performing
with respect to securities the functions commonly performed by a stock
exchange if it is not subject to an exception under Rule 3b-16(b) and
it: (1) brings together buyers and sellers of securities using trading
interest; and (2) makes available established, non-discretionary
methods (whether by providing a trading facility or communication
protocols, or by setting rules) under which buyers and sellers can
interact and agree to the terms of a trade. For purposes of this
Reopening Release, trading systems that meet the criteria of Exchange
Act Rule 3b-16(a), as proposed to be amended (i.e., offer the use of
non-firm trading interest and provide non-discretionary protocols),\11\
are referred to throughout the release as ``New Rule 3b-16(a)
Systems.'' New Rule 3b-16(a) Systems would be subject to the definition
of ``exchange'' and be required to register as a national securities
exchange or comply with the conditions to an exemption to such
registration, such as Regulation ATS.
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\11\ Such systems were referred to as ``Communication Protocol
Systems'' in the Proposing Release. See id. at 15497 n.5.
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C. Purpose of the Reopening Release
In response to the Proposing Release, the Commission received many
comments.\12\ In particular, the Commission received requests for
information about the application of the Proposed Rules to trading
systems for crypto asset securities \13\ and trading systems that use
distributed ledger or blockchain technology (broadly referred to as
``DLT''),\14\ including systems commenters characterize as
decentralized finance or ``DeFi.'' \15\ Commenters request information
about whether and how such systems can comply with existing federal
securities laws and the Proposed Rules.\16\ Given these comments, the
Commission is issuing this Reopening Release regarding the potential
effects of the proposed amendments to Exchange Act Rule 3b-16 on
trading systems for crypto asset securities and trading systems using
DLT, including systems commenters characterize as various forms of
``DeFi,'' and requesting further information and public comment on
aspects of the Proposed Rules, more generally. This Reopening Release
also supplements the economic analysis in the Proposing Release by
providing additional analysis on the estimated impact of the Proposed
Rules on trading systems for crypto asset securities and those using
DLT, which include various so-called ``DeFi'' trading systems, and
requests further comment.
---------------------------------------------------------------------------
\12\ See infra sections II.A and II.B. Comment letters cited in
this Reopening Release are comment letters received in response to
the Proposing Release, which are available at https://www.sec.gov/comments/s7-02-22/s70222.htm.
\13\ See infra note 26.
\14\ The terms DLT and blockchain, a type of DLT, generally
refer to databases that maintain information across a network of
computers in a decentralized or distributed manner. Blockchain
networks commonly use cryptographic protocols to ensure data
integrity. See, e.g., World Bank Group, ``Distributed Ledger
Technology (DLT) and Blockchain,'' FinTech Note No. 1 (2017),
available at https://openknowledge.worldbank.org/bitstream/handle/10986/29053/WP-PUBLIC-Distributed-LedgerTechnology-and-Blockchain-Fintech-Notes.pdf?sequence=1&isAllowed=y.
\15\ Commenters vary in their definitions of ``DeFi,'' or what
makes a product, service, arrangement or activity ``decentralized.''
See generally The Board of the International Organization of
Securities Commissions, IOSCO Decentralized Finance Report (Mar.
2022) (``IOSCO Decentralized Finance Report''), available at https://www.iosco.org/library/pubdocs/pdf/IOSCOPD699.pdf. Trading systems
for crypto assets that are colloquially referred to as
``decentralized'' typically combine more traditional technology
(such as web-based systems that accept and display orders and
servers that store orders) with distributed ledger technology (such
as ``smart contract'' provisioned blockchains--self-executing code
run on distributed ledgers that carry out ``if/then'' type
computations). See id. at 1. See also infra note 44.
\16\ See, e.g., infra notes 25, 58, 80, 82-84, and 86-87.
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II. Exchange Activity Involving Crypto Asset Securities and DLT Under
the Proposed Rules
A. Crypto Asset Securities
Commenters reflecting a broad range of market participants shared
feedback on the application of the Proposed Rules to all securities,
including crypto assets that are securities. Some commenters agree with
the Commission's view \17\ that the Proposed Rules should apply to
trading in any type of security, regardless of the specific technology
used to issue and/or transfer the security.\18\ Several commenters
request
[[Page 29450]]
that the Commission clarify whether the Proposed Rules apply to crypto
asset securities.\19\ Commenters point to the lack of any explicit
references in the Proposing Release to systems that trade crypto asset
securities, including so-called ``DeFi'' trading systems, with some
suggesting that such systems would be outside the scope of the Proposed
Rules.\20\ One commenter states that the Proposed Rules should not
apply to crypto asset securities.\21\ Some commenters state their view
that there is supposed regulatory uncertainty as to which crypto assets
are securities.\22\ Some commenters state that as a result of such
supposed uncertainty, it is unclear whether the Proposed Rules would
apply to so-called ``DeFi'' protocols.\23\ One commenter states that
the Commission should defer action on any rulemaking impacting crypto
assets until, among things, such supposed uncertainty is
eliminated.\24\ Some commenters state that the existing exchange
regulatory framework is incompatible with systems that trade crypto
asset securities using so-called ``DeFi protocols.'' \25\
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\17\ See Proposing Release at 15503.
\18\ See, e.g., Letters from Marcia E. Asquith, Executive Vice
President, Board and External Relations, FINRA, dated Apr. 19, 2022
(``FINRA Letter'') at 4; Stephen W. Hall, Legal Director and
Securities Specialist, and Scott Farnin, Legal Counsel, Better
Markets, Inc., dated Apr. 18, 2022 (``Better Markets Letter'') at 8;
Tyler Gellasch, Executive Director, Healthy Markets Association,
dated June 13, 2022 (``Healthy Markets Letter'') at 6 n.21 (stating
that the Proposed Rules should apply only to crypto assets that meet
the definition of a security under the Exchange Act ``to avoid
unnecessarily creating regulatory inconsistencies and loopholes, and
fulfill its investor protection mandate'').
\19\ See, e.g., Letters from Jai Ramaswamy, Chief Legal Officer
and Miles Jennings, General Counsel, a16zCrypto, A.H. Capital
Management, LLC, dated Apr. 18, 2022 (``a16z Letter'') at 3; Kristin
Smith, Executive Director and Jake Chervinsky, Head of Policy,
Blockchain Association, dated Apr. 18, 2022 (``Blockchain
Association Letter II'') at 7-8; Brett Kitt, Associate Vice
President, Principal Associate General Counsel, Nasdaq, Inc., dated
Apr. 18, 2022 (``Nasdaq Letter'') at 5; Joanna Mallers, Secretary,
FIA Principal Traders Group, dated Apr. 21, 2022 (``FIA PTG
Letter'') at 2; Sheila Warren, Chief Executive Officer, Crypto
Council for Innovation, dated Apr. 18, 2022 (``Crypto Council
Letter'') at 2; Sasha Hodder, Hodder Law Firm, P.A., dated Feb. 25,
2022; Tim Lau, dated Apr. 4, 2022; Zachary Stinson, dated Apr. 18,
2022 (``Stinson Letter''); Karthik Mahalingam, dated Apr. 19, 2022.
\20\ See, e.g., Letters from Michelle Bond, Chief Executive
Officer, Association for Digital Asset Markets, dated Apr. 18, 2022
(``ADAM Letter II'') at 14; Gus Coldebella and Gregory Xethalis,
dated Apr. 18, 2022 (``Coldebella and Xethalis Letter'') at 1-2;
Crypto Council Letter at 3; a16z Letter at 7.
\21\ See ADAM Letter II at 3, 9-12.
\22\ See, e.g., a16z Letter at 3, 15-16 (stating that the
Commission has not made clear which digital assets it believes are
``securities''); Blockchain Association Letter II at 3, 9 (stating
whether and when a given digital asset may qualify as a security
under federal securities laws remains unclear); Letter from LeXpunK,
dated Apr. 18, 2022 (``LeXpunK Letter'') at 2 n.4 (stating that
given the ``lack of clarity with respect to the Commission's
classification of digital assets and transactions involving digital
assets,'' ``there remains a looming uncertainty as to whether the
same would be regarded as securities and securities transactions,
respectively'').
\23\ See, e.g., a16z Letter at 3, 15-16 (stating that given the
uncertainty on which digital assets are ``securities,'' some so-
called ``DeFi systems or protocols'' that do not clearly meet the
definition of ``Communication Protocol Systems'' or facilitate
transactions in digital assets could endeavor to comply with the
Proposed Rules while other ``DeFi systems or protocols'' might not,
which raises the danger of inconsistency and could create unforeseen
consequences in the market for digital assets); Blockchain
Association Letter II at 3, 9 (stating that given the Commission's
``expansive view of what may be deemed a security, there remains a
risk that certain digital assets that users trade through
Decentralized Protocols may (ex post) be deemed by the [Commission]
to be securities''). See also Damien G. Scott, Deputy General
Counsel, CoinList, dated Apr. 18, 2022 (``CoinList Letter'') at 1-2
(explaining that crypto asset industry needs clarity about how the
rules written for traditional paper securities secured and validated
by intermediaries apply in practice to new digital technology).
\24\ See Letter from Jay H. Knight, Chair of the Federal
Regulation of Securities Committee, Federal Regulation of Securities
Committee of the Business Law Section of the American Bar
Association, dated Apr. 18, 2022 (``ABA Letter'') at 5-6 (suggesting
the Commission defer the application of the Proposed Rules to
digital asset intermediaries and their underlying technology pending
completion of coordination among a broad range of government
agencies to develop an appropriate approach to digital assets,
pursuant to the Executive Order on Ensuring the Responsible
Development of Digital Assets).
\25\ See, e.g., a16z Letter at 9 (``But even casting aside the
practical challenges that DeFi protocols would confront in
attempting to follow Regulation ATS, the Commission seems to
overlook the fact that the purposes behind Regulation ATS would not
be served by imposing its requirements on DeFi protocols.''); Letter
from William C. Hughes, Senior Counsel & Director of Global
Regulatory Matters, ConsenSys Software Inc., dated Apr. 14, 2022
(``ConsenSys Letter'') at 8 (``The '34 Act's requirements, tailored
as they are to the centralized nature of exchanges, make no sense
when applied to decentralized blockchain-based systems.''); Letter
from Delphi Digital, dated Apr. 18, 2022 (``Delphi Digital Letter'')
at 6 (stating that ``systems lacking order-book logic, or which are
sufficiently decentralized (i.e., lacking any particular owner/
operator who could rationally be expected to comply with the SEC's
intermediaries-based regulatory regime)'' have been viewed by
participants in the digital asset marketplace as outside the scope
of securities exchange regulation). One commenter cites a paper
stating that ``[s]ome characteristics of DeFi may be incompatible
with the existing regulatory framework, particularly given that the
current framework is designed for a system that has financial
intermediaries at its core.'' See Letter from Jake Chervinsky, Head
of Policy, Blockchain Association and Miller Whitehouse-Levine,
Policy Director, DeFi Education Fund, dated June 13, 2022
(``Blockchain Association/DeFi Education Fund Letter'') at 4 (citing
Org. for Econ. Cooperation and Dev., Why Decentralised Finance
(DeFi) Matters and the Policy Implications (2022) at 12).
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Crypto assets \26\ generally use DLT as a method to record
ownership and transfers.\27\ Further, a crypto asset that is a security
is not a separate type or category of security (e.g., NMS stock,
corporate bond) for purposes of federal securities laws based solely on
the use of DLT. The definition of ``exchange'' under section 3(a)(1) of
the Exchange Act and existing Rule 3b-16 thereunder, and the
requirement that an exchange register with the Commission pursuant to
section 5 of the Exchange Act, apply to all securities, including
crypto assets that are securities, which include investment contracts
or any other type of security.\28\ The Commission understands that
currently certain trading systems for crypto assets, including so-
called ``DeFi'' systems, operate like an exchange as defined under
federal securities laws--that is, they bring together orders of
multiple buyers and sellers using established, non-discretionary
methods (by providing a trading facility, for example) under which such
orders interact and the buyers and sellers entering such orders agree
upon the terms of a trade.\29\ Because it is unlikely that systems
trading a large number of different crypto assets are not trading any
crypto assets that are securities,\30\ these
[[Page 29451]]
systems likely meet the current criteria of Exchange Act Rule 3b-16(a)
and are subject to the exchange regulatory framework.\31\ Indeed, the
President's Executive Order on Ensuring Responsible Development of
Digital Assets acknowledged that ``many activities involving digital
assets are within the scope of existing domestic laws and regulations''
and systems trading such assets ``should, as appropriate, be subject to
and in compliance with regulatory and supervisory standards that govern
traditional market infrastructures and financial firms.'' \32\ The
proposed amendments to Exchange Act Rule 3b-16 do not change any
existing obligation for these systems to register as a national
securities exchange or comply with the conditions to an exemption to
such registration, such as Regulation ATS.\33\
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\26\ For purposes of this Reopening Release, the Commission does
not distinguish between the terms ``digital asset securities'' and
``crypto asset securities.'' The term ``digital asset'' refers to an
asset that is issued and/or transferred using distributed ledger or
blockchain technology, including, but not limited to, so-called
``virtual currencies,'' ``coins,'' and ``tokens.'' See Securities
Exchange Act Release No. 90788 (Dec. 23, 2020), 86 FR 11627, 11627
n.1 (Feb. 26, 2021) (``Commission Statement on Custody of Digital
Asset Securities by Special Purpose Broker-Dealers''). A digital
asset may or may not meet the definition of a ``security'' under the
federal securities laws. See, e.g., Report of Investigation Pursuant
to Section 21(a) of the Securities Exchange Act of 1934: The DAO,
Securities Exchange Act Release No. 81207 (July 25, 2017) (``DAO
21(a) Report''), available at https://www.sec.gov/litigation/investreport/34-81207.pdf. See also SEC v. W.J. Howey Co., 328 U.S.
293 (1946). To the extent digital assets rely on cryptographic
protocols, these types of assets also are commonly referred to as
``crypto assets.''
\27\ See Investment Advisers Act Release No. 6240 (Feb. 15,
2023), 88 FR 14672, 14676 n.25 and accompanying text (Mar. 9, 2023);
Securities Exchange Act Release No. 96496 (Dec. 14, 2022), 88 FR
5440, 5448 n.94 and accompanying text (Jan. 27, 2023).
\28\ Section 3(a)(1) of the Exchange Act and Rule 3b-16
thereunder do not apply to market places or facilities that do not
trade securities. This would also remain unchanged under Exchange
Act Rule 3b-16, as proposed to be amended.
\29\ In addition to its exchange obligations, depending on the
facts and circumstances, an organization, association, or group of
persons engaging in crypto asset securities business may also have
legal and regulatory obligations under the federal securities laws
for broker-dealer, custodial, clearing, or lending activities, among
others. See U.S. Securities and Exchange Commission v. Beaxy
Digital, Ltd., et al., No. 23-cv-1962 (N.D. Ill. Mar. 29, 2023)
(Docket Entries 1, 4) (final judgment entered on consent enjoining
crypto asset trading platform from operating an unregistered
exchange, broker, and clearing agency).
\30\ See Fin. Stability Oversight Council, Report on Digital
Asset Financial Stability Risks and Regulation 119 (2022) (``FSOC
Report'') at 97, available at https://home.treasury.gov/system/files/261/FSOC-Digital-Assets-Report-2022.pdf. Each system should
analyze whether the crypto assets that it offers for trading meet
the definition of a security under the federal securities laws and
prior Commission statements. See supra note 26. The Commission will
continue to evaluate whether currently operating systems are acting
consistent with federal securities laws and the rules thereunder.
\31\ See, e.g., DAO 21(a) Report at 17 (``The Platforms that
traded DAO Tokens appear to have satisfied the criteria of Rule 3b-
16(a) and do not appear to have been excluded from Rule 3b-
16(b).''); In the Matter of Zachary Coburn, Securities Exchange Act
Release No. 84553 (Nov. 8, 2018) (settled cease-and-desist order);
In the Matter of Poloniex, LLC, Securities Exchange Act Release No.
92607 (Aug. 9, 2021) (settled cease-and-desist order).
\32\ See President's Executive Order on Ensuring Responsible
Development of Digital Assets, dated Mar. 9, 2022, available at
https://www.whitehouse.gov/briefing-room/presidential-actions/2022/03/09/executive-order-on-ensuring-responsible-development-of-digital-assets/.
\33\ 17 CFR 242.300 through 242.304.
---------------------------------------------------------------------------
The Commission preliminarily believes that some amount of crypto
asset securities trade on New Rule 3b-16(a) Systems, and that such
systems may use DLT or be ``DeFi'' trading systems, as described by
some commenters. Depending on facts and circumstances, systems that
offer the use of non-firm trading interest and provide non-
discretionary protocols to bring together buyers and sellers of crypto
assets securities \34\ can perform a market place function like that of
an exchange--that is, they allow participants to discover prices, find
liquidity, locate counterparties, and agree upon terms of a trade for
securities. The exchange regulatory framework would provide market
participants that use New Rule 3b-16(a) Systems for crypto asset
securities with transparency, fair and orderly markets, and investor
protections that apply to today's registered exchanges or ATSs.\35\
These benefits, in turn, promote capital formation, competition, and
market efficiencies.\36\ An organization, association, or group of
persons that constitutes, maintains, or provides a market place or
facilities for bringing together purchasers and sellers of crypto asset
securities or performs with respect to crypto asset securities the
functions commonly performed by a stock exchange as that term is
generally understood under the criteria of Exchange Act Rule 3b-16(a),
as proposed to be amended, would be an exchange under section 3(a)(1)
of the Exchange Act and would be required to register as a national
securities exchange or comply with the conditions of Regulation ATS.
---------------------------------------------------------------------------
\34\ See Proposing Release at 15503.
\35\ See Regulation ATS Adopting Release at 70847.
\36\ See 15 U.S.C. 78c(f).
---------------------------------------------------------------------------
Some commenters question the application of the proposed amendments
to Exchange Act Rule 3b-16 to assets that may not be securities.\37\ In
addition, commenters indicate that many crypto asset trading systems
offer pairs trading,\38\ which typically involves two crypto assets
(which may or may not be securities) that can be exchanged directly for
each other using their relative price (``trading pair'').\39\ Trading
pairs consist of both a base and quote asset; the base asset is the
asset quoted in terms of the value of the other (i.e., quote) asset in
the trading pair.\40\ Today, trading pairs can include a combination of
securities and non-securities and frequently include so-called
stablecoins, bitcoin, or ether as the base asset, quote asset, or
both.\41\ Users entering a trading pair on a system can exchange one
crypto asset for another without exchanging the crypto asset for U.S.
dollars (or other fiat currency) by simultaneously selling one asset
while buying another on the system without exchanging either crypto
asset for U.S. dollars first.
---------------------------------------------------------------------------
\37\ See ADAM Letter II at 9 (stating that ``it is premature of
the SEC to include digital assets within the scope of the exchange
regulatory framework until such time as there is a better
understanding regarding the appropriate regulatory approach for such
assets''); LeXpunK Letter at 2 n.4 (stating ``where digital asset
transactions do not involve securities, U.S. securities laws (and
the instant proposed rulemaking) would be inapplicable'' and that
``in light of the lack of clarity with respect to the Commission's
classification of digital assets and transactions involving digital
assets, however, there remains a looming uncertainty as to whether
the same would be regarded as securities and securities
transactions, respectively''); a16z Letter at 15-16 (stating that
the Proposing Release ``does not mention `digital asset securities'
or `investment contracts,' two of the terms the Commission uses to
describe digital assets believed to be securities'' and that the
``omissions will further compound the uncertainty over whether the
Proposal was meant to cover digital assets'').
\38\ See LeXpunK Letter at 4 and 4 n.19; Delphi Digital Letter
at 7 (stating that, in the context of systems that use ``technology
in DeFi,'' automated market makers (``AMMs'') use ``liquidity
pools,'' which ``represents assets in (and a market for) a single
token pair'' that are `` `locked' within smart contracts'').
\39\ See Fan Fang, Carmine Ventre, Michail Basios et al.,
Cryptocurrency Trading: A Comprehensive Survey, 8 Fin. Innovation 13
(2022), available at https://doi.org/10.1186/s40854-021-00321-6
(stating that in general, pairs trading involves two similar assets
with a stable long-run relationship and slightly different spreads,
and if the spread widens, investors short the high-priced crypto
asset and buy the low-priced crypto asset).
\40\ See A Review of Cryptoasset Market Structure and Regulation
in the United States, Feb. 2023, Program on International Financial
Systems, available at https://www.pifsinternational.org/cryptoasset-market-structure-and-regulation-in-the-u-s/ (``PIFS Crypto
Review'').
\41\ Crypto asset trading pairs offered by trading systems today
also include other combinations (e.g., crypto asset (security or
non-security) for another crypto asset (security or non-security)).
While some of the major crypto asset trading systems available in
the U.S. allow trading in U.S. dollars, others only allow trading
between different crypto assets and not fiat currencies. The main
base asset used on certain of these other systems is Tether (USDT).
See Igor Makarov & Antoinette Schoar, Trading and Arbitrage in
Cryptocurrency Markets, 135 J. Fin. Econ. 293 (2020). See also PIFS
Crypto Review at 10-11 (stating that most global bitcoin trading is
conducted with stablecoins rather than fiat currency).
---------------------------------------------------------------------------
Section 3(a)(1) of the Exchange Act and Rule 3b-16 state that an
exchange is any organization, association, or group of persons which
constitutes, maintains, or provides a market place or facilities for
bringing together purchasers and sellers of securities or for otherwise
performing with respect to securities the functions commonly performed
by a stock exchange as that term is generally understood.\42\ An
organization, association, or group of persons that meets the criteria
of existing Exchange Act Rule 3b-16(a), and Rule 3b-16(a), as proposed
to be amended, and makes available for trading a security and a non-
security would meet the definition of ``exchange'' notwithstanding the
fact that the entity traded non-securities. For its securities
activities, the organization, association, or group of person must
register as a national securities exchange or comply with the
conditions of Regulation ATS.\43\ Market places or facilities of, and
the functions performed by, national securities exchanges and ATSs
trade only securities quoted in and paid for in U.S. dollars.
---------------------------------------------------------------------------
\42\ See 15 U.S.C. 78c(a)(1).
\43\ Section 5 of the Exchange Act states that ``[i]t shall be
unlawful for any . . . exchange, directly or indirectly, to make use
of the mails or any means or instrumentality of interstate commerce
for the purpose of using any facility of an exchange within or
subject to the jurisdiction of the United States to effect any
transaction in a security, or to report any such transaction, unless
such exchange (1) is registered as national securities exchange
under [section 6 of the Exchange Act], or (2) is exempted from such
registration . . . .'' See 15 U.S.C. 78e.
---------------------------------------------------------------------------
The Commission is soliciting additional comment on Rule 3b-16, as
proposed to be amended, and in
[[Page 29452]]
particular responses to the following questions:
1. Should a New Rule 3b-16(a) System that trades crypto asset
securities have the choice of registering as a national securities
exchange or complying with the conditions of Regulation ATS? Why or why
not?
2. Please describe any trading systems that currently offer the use
of non-firm trading interest and provide non-discretionary protocols to
bring together buyers and sellers of crypto asset securities, including
a description of trading interest used, functionalities or protocols,
requirements, limitations, types of market participants that use the
systems, transaction volume, crypto asset securities offered for
trading, and any other services offered by the system. Please provide
any data, literature, or other information that you consider relevant
to the Commission's analysis of New Rule 3b-16(a) Systems for crypto
asset securities, including but not limited to, the types of systems,
the amount of trading volume on such systems, the number of
participants on such systems (as well as the participant types, such as
institutional and retail), and the types of crypto asset securities
they trade.
3. Do organizations, associations, or groups of persons that meet
the criteria of New Rule 3b-16(a) Systems and trade crypto asset
securities quote a security in an asset other than in U.S. dollars,
such as a non-security crypto asset, and provide for the purchase or
sale of that asset on the system or off-system? How do investors and
trading systems use pairs trading involving non-security crypto assets
and crypto asset securities? Are there significant differences between
investors' use of pairs trading on centralized trading systems versus
trading systems that commenters describe as ``DeFi''? Please explain.
For example, approximately how much trading volume for crypto asset
securities is executed using trading pairs on various types of
platforms discussed above? What percentage of trading in crypto asset
securities, in terms of volume executed, is in exchange for U.S.
dollars? Please provide any data, literature, or other information that
you consider relevant to the Commission's analysis.
B. Exchange Activity Using DLT, Including ``DeFi'' Systems
1. Technology Neutral and Functional Test of the ``Exchange''
Definition
The Commission received comments regarding whether the proposed
amendments to Exchange Act Rule 3b-16 were intended to apply to what
commenters characterize as ``DeFi,'' and comments stating that the
Proposed Rules could be interpreted to cover a broad range of
technologies, including technologies used by so-called ``DeFi'' trading
systems.\44\ Some commenters state that so-called ``DeFi'' trading
systems should be excluded from Exchange Act Rule 3b-16(a), as proposed
to be amended.\45\
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\44\ See, e.g., ConsenSys Letter at 8-9 (requesting that any
final rule make clear that ``blockchain-based systems'' would not be
exchanges); a16z Letter at 1, 2, 28 (stating, among other things,
that the Proposed Rules could be interpreted as applying to a broad
array of technologies, including ``DeFi systems and protocols'');
Crypto Council Letter at 2, 4 (stating, in part, that the Proposed
Rules could apply to the ``crypto and decentralized finance
markets''); LeXpunK Letter at 3 (stating, in part, its belief that
many ``DeFi protocols and applications'' would meet the definition
of a ``communication protocol system'' under the Proposed Rules);
Global Digital Asset & Cryptocurrency Association, dated Apr. 18,
2022 (``GDCA Letter II'') at 11 (questioning whether ``decentralized
exchanges'' would fall under the definition of ``exchange''); Letter
from Miller Whitehouse-Levine, Policy Director, DeFi Education Fund,
dated Apr. 18, 2022 (``DeFi Education Fund Letter'') at 3, 15
(stating, in part, that, without clarification, the Proposed Rules
could be interpreted to regulate certain ``DeFi protocols''); Letter
from Dante Disparte, Chief Strategy Officer and Head of Global
Policy, Circle internet Financial, LLC, dated Apr. 18, 2022
(``Circle Letter'') at 3; Letter from Michelle Bond, Chief Executive
Officer, Association for Digital Asset Markets, dated Feb. 2, 2022
(``ADAM Letter I'') at 1-2 (stating that the Proposed Rules could
expand Commission authority over ``spot digital asset markets and
peer-to-peer decentralized networks'' in ways not discussed in the
Proposing Release); Letter from Kimberly Unger, The Security Traders
Association of New York, dated Feb. 3, 2022 (``STANY Letter'') at 2;
Letter from Andrew Vollmer, Mercatus Center at George Mason
University, dated Mar. 11, 2022 (``Vollmer Letter'') at 2. Two
commenters also state their belief that there is a lack of clarity
as to the application of the Proposed Rules to ``decentralized
finance'' or ``DeFi protocols'' that raises administrative due
process concerns for industry participants. See ConsenSys Letter at
18; DeFi Education Fund Letter at 19. The foregoing commenters
describe systems that use DLT with varying definitions and
terminology (some of which the commenters do not define). As
discussed above, there is no generally agreed upon definition of
``DeFi'' or decentralization. See IOSCO Decentralized Finance Report
at 1, 9. Nonetheless, as discussed below, the Proposed Rules, like
the existing exchange framework, regulate exchange activity, and not
the technology underlying such activity.
\45\ See, e.g., a16z Letter at 3 (stating that ``DeFi protocols
eliminate the need for a central operator that could implement
regulatory requirements applicable to traditional securities
exchanges or broker-dealers'' and therefore the Commission should
``clarify that the [p]roposal does not apply to DeFi systems by
explicitly excluding them''); LeXpunK Letter at 2 (stating that the
Proposed Rules would improperly expand the Commission's authority to
regulate ``technologists with neither the resources nor the
reasonable expectation of being so regulated, who `make available'
peer-to-peer `communication protocols' used in DeFi''); ConsenSys
Letter at 8-12 (stating its belief that the term ``communication
protocols'' does not cover ``blockchain-based systems''); Delphi
Digital Letter at 6 (stating that, unless ``decentralized-in-
actuality software systems--including `automatic market-making'
smart contract systems'' are carved out of the term ``communication
protocols,'' the Proposed Rules would impose ``impossible compliance
obligations on persons who may merely write open-source
`communications protocol' code or publish information about the
contents of communications systems which they do not control'');
Blockchain Association Letter II at 3 (stating that application of
the Proposed Rules to ``decentralized exchange protocols through
which digital assets may be traded, [and] operate[d] autonomously
and automatically through smart contracts and the participation of
their users'' would exceed the Commission's statutory authority
under the Exchange Act); Letter from Spence Purnell, Director of
Technology Policy, Reason Foundation, dated Feb. 23, 2022 at 2
(stating that the Proposed Rules should not apply to ``technologies
such as decentralized finance and smart-contracts'' because they
were not explicitly considered in the Proposing Release); Letter
from Bryant Eisenbach, dated Feb. 2, 2022 (``Eisenbach Letter'').
See also Letter from Rep. Patrick McHenry, Ranking Member, and Rep.
Bill Huizenga, Ranking Member Subcommittee on Investor Protection,
Entrepreneurship and Capital Markets, House Committee on Financial
Services, dated Apr. 18, 2022 (``McHenry/Huizenga Letter'')
(expressing concern that the Proposed Rules ``can be interpreted to
expand the SEC's jurisdiction beyond its existing statutory
authority to regulate market participants in the digital asset
ecosystem, including in decentralized finance'').
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When adopting Exchange Act Rule 3b-16, the Commission stated that
the exchange framework is based on the functions performed by a trading
system, not on its use of technology.\46\ Notwithstanding how an entity
may characterize itself or the technology it uses, a functional
approach (taking into account the relevant facts and circumstances)
will be applied when assessing whether the activities of a trading
system meet the definition of an exchange. These principles continue to
apply today under existing Rule 3b-16 and would equally apply under
Rule 3b-16, as proposed to be amended.\47\ Accordingly, an
organization, association, or group of persons that uses any form or
forms of technology (e.g., DLT, including technologies used by so-
called ``DeFi'' trading systems, computers, networks, the internet,
cloud, telephones, algorithms, a
[[Page 29453]]
physical trading floor) that constitutes, maintains, or provides a
market place for bringing together purchasers and sellers of
securities, including crypto asset securities, or for otherwise
performing with respect to securities the functions commonly performed
by a stock exchange under the current criteria of Exchange Act Rule 3b-
16(a), or Exchange Act Rule 3b-16(a), as proposed to be amended, would
be an exchange and would be required to register as a national
securities exchange or comply with the conditions of Regulation ATS.
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\46\ See Regulation ATS Adopting Release at 70902.
\47\ See, e.g., DAO 21(a) Report (stating that ``any entity or
person engaging in the activities of an exchange, such as bringing
together the orders for securities of multiple buyers and sellers
using established non-discretionary methods under which such orders
interact with each other and buyers and sellers entering such orders
agree upon the terms of the trade, must register as a national
securities exchange or operate pursuant to an exemption from such
registration,'' ``the automation of certain functions through this
technology, `smart contracts,' or computer code, does not remove
conduct from the purview of the U.S. federal securities laws,'' and
that the requirements of the U.S. federal securities laws ``apply to
those who offer and sell securities in the United States, regardless
whether the issuing entity is a traditional company or a
decentralized autonomous organization, regardless whether those
securities are purchased using U.S. dollars or virtual currencies,
and regardless whether they are distributed in certificated form or
through distributed ledger technology'').
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2. So-Called ``DeFi'' Systems and Exchange Act Rule 3b-16
Several commenters state their belief that the Proposed Rules could
cause what they describe as ``DeFi'' trading systems to meet the
criteria of Exchange Act Rule 3b-16(a), as proposed to be amended.\48\
So-called ``DeFi'' trading systems can be used to allow investors to
discover prices, find liquidity, locate counterparties, and agree upon
terms of a trade for securities, including crypto asset securities,
thereby performing market place activities or functions commonly
performed by a stock exchange. Today, many systems, some of which are
described as ``DeFi'' by commenters, bring together buyers and sellers
of securities, including crypto asset securities, and could meet the
existing criteria of Exchange Act Rule 3b-16(a). The Commission
understands that so-called ``DeFi'' trading systems often rely on
electronic messages that are exchanged between buyers and sellers so
that they can agree upon the terms of a trade without negotiations.\49\
If these electronic messages constitute a firm willingness to buy or
sell a security, including a crypto asset security, the messages would
meet the definition of orders under existing Rule 3b-16(c).\50\ And if
established, non-discretionary method(s) under which orders of multiple
buyers and sellers interact with each other are provided, such as
through the provision of certain smart contract functionality, the
activities would be covered under existing Rule 3b-16(a). Accordingly,
depending on the facts and circumstances, activities performed today
using so-called ``DeFi'' trading systems could meet the criteria of
existing Rule 3b-16 and thus constitute exchange activity. The proposed
amendments to Rule 3b-16(a) would not, in any way, change whether such
activities constitute exchange activity under section 3(a)(1) and Rule
3b-16(a).
---------------------------------------------------------------------------
\48\ See DeFi Education Fund Letter at 15; Circle Letter at 3;
ADAM Letter I at 1-2; STANY Letter at 2; Vollmer Letter at 2; Crypto
Council Letter at 2; LeXpunK Letter at 7-8.
\49\ For example, AMM is a mechanism designed to create
liquidity for others seeking to effectuate trades. See President's
Working Group on Financial Markets, Federal Deposit Insurance
Corporation, and Office of the Comptroller of the Currency, Report
on Stablecoins (Nov. 2021), available at https://home.treasury.gov/system/files/136/StableCoinReport_Nov1_508.pdf. Liquidity pools of
so-called ``DeFi'' trading systems rely on AMM protocols which
typically use preset mathematical equations (e.g., x*y=k, where x
and y represent the values of tokens in a liquidity pair and k is a
constant) to ensure the ratio of assets in the liquidity pools
remains balanced and determine prices based on trading volumes. See
U.S. Department of the Treasury, Crypto-Assets: Implications for
Consumers, Investors, and Businesses (Sept. 2022) (``Crypto-Assets
Treasury Report''), available at https://home.treasury.gov/system/files/136/CryptoAsset_EO5.pdf. Some commenters argue that systems
that use AMMs do not use trading interest as described in the
Proposed Rules. See LeXpunK Letter at 12-13; Delphi Digital Letter
at 9-10. One commenter states that AMM users do not interact with
each other but with a pool of liquidity resting in a smart contract.
See LeXpunK Letter at 12-13. This commenter states that forms of
non-firm trading interest--conditional orders and indications of
interest--discussed in the Proposing Release, ``do not align with
AMMs provision of automated liquidity through the smart contract-
based deterministic mechanisms,'' where no party imposes such
conditions or communicates such interest. See id. One commenter
states that there are no ``orders'' on an AMM because, in contrast
to a ``centralized'' platform which permits makers and takers to
agree upon a price, an AMM sets the price. See Delphi Digital Letter
at 9-10.
\50\ See 17 CFR 240.3b-16(c).
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As discussed above, the Commission preliminarily believes that New
Rule 3b-16(a) Systems, including some so-called ``DeFi'' systems, trade
some amount of crypto asset securities, and would, under the proposed
amendments to Exchange Act Rule 3b-16(a), be required to register as a
national securities exchange or comply with the conditions of
Regulation ATS.
3. Custodial Services Is Generally Not Relevant to Exchange Analysis
Some commenters state that because so-called ``DeFi'' trading
systems do not custody assets, they should not be subject to exchange
regulation.\51\ One commenter states that trading conducted using
``DeFi'' trading systems does not involve users depositing assets with
a central authority.\52\ Another commenter states that ``custody'' with
reference to ``DeFi'' means self-custody, which the commenter states
does not fit ``the Commission's model, under which all exchanges are
centralized.'' \53\ Neither existing Exchange Act Rule 3b-16 nor Rule
3b-16, as proposed to be amended, requires an organization,
association, or group of persons to provide custodial services to be
considered an exchange under section 3(a)(1) of the Exchange Act and
Rule 3b-16 thereunder.\54\ Thus, custodial services generally is not a
relevant factor to the exchange analysis.
---------------------------------------------------------------------------
\51\ See a16z Letter at 8-9; GDCA Letter II at 11; DeFi
Education Fund Letter at 6. See also LeXpunK Letter at 4 n.18
(stating that no `` `custody' or `transfer' actually occurs'' in the
context of a ``smart contract-based platform'').
\52\ See a16z Letter at 8-9. The commenter cites a paper stating
``one of the main advantages of decentralized exchanges over
centralized exchanges is the ability for users to keep control of
their private keys.'' See id. at 8 n.41 (citing Igor Makarov &
Antoinette Schoar, Cryptocurrencies and Decentralized Finance (DeFi)
23 (Brookings Paper on Econ. Activity, Conference Draft, 2022)).
\53\ See GDCA Letter II at 11. See also DeFi Education Fund
Letter at 6 (stating ``DeFi protocols'' present ``no financial risk
for users from broker activity or custody''). One commenter also
states that the Commission has provided no public guidance regarding
how a digital asset communication protocol system could arrange for
custody and settlement to the Commission's satisfaction, in order to
operate as an exchange. See GDCA Letter II at 10. Further, some
commenters question how exchange regulation will apply to trading
activities that use ``DeFi'' and do not involve an intermediary for
trading or to custody securities. See supra note 52 and infra note
56.
\54\ The Customer Protection Rule requires a broker-dealer to
promptly obtain and thereafter maintain physical possession or
control of all fully-paid and excess margin securities it carries
for the account of customers. See 17 CFR 240.15c3-3(b). In 2020, the
Commission issued a statement describing its position that, for a
period of five years, special purpose broker-dealers operating under
the circumstances set forth in the statement will not be subject to
a Commission enforcement action on the basis that the broker-dealer
deems itself to have obtained and maintained physical possession or
control of customer fully-paid and excess margin crypto asset
securities for purposes of 17 CFR 240.15c3-3(b)(1) (``Rule 15c3-
3(b)(1)'') under the Exchange Act. See Commission Statement on
Custody of Digital Asset Securities by Special Purpose Broker-
Dealers. To date, no person has been approved to act as a special
purpose broker-dealer custodying crypto asset securities.
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4. Group of Persons as the Exchange
Some commenters ask that the Commission explain which actor or
group of actors would be responsible for compliance and how so-called
``DeFi'' trading systems should comply with exchange regulatory
requirements.\55\ Some commenters express concerns that the proposed
amendments to Exchange Act Rule 3b-16(a) would inappropriately apply to
systems that purport not to involve intermediaries.\56\ One commenter
states that providers of rule sets on how messages should be formed,
stored, and relayed on a network are not like ``intermediaries of the
traditional financial system'' because ``all they are doing is
[[Page 29454]]
publishing particular arrangements of 0s and 1s.'' \57\ In addition,
some commenters state that ``DeFi'' trading systems may be unable to
comply with exchange regulatory requirements because they lack a
central operator.\58\ Some commenters interpret Exchange Act Rule 3b-
16(a), as proposed to be amended, to mean that each entity that
performs any exchange function would need to register as a national
securities exchange or comply with the conditions of Regulation
ATS.\59\ For example, some commenters state that, under the proposed
amendments to Exchange Act Rule 3b-16(a), exchange regulation could
extend to persons including open source developers who contribute code
to the software repositories where software for so-called ``DeFi''
trading systems is first published, persons who republish and share
this information, and persons who connect to the peer-to-peer networks
on which ``DeFi'' activities takes place.\60\ One commenter states that
the group of persons involved in a ``DeFi'' trading system--including
developers, AMMs, and miners--could all comprise essential components
of the market infrastructure.\61\ This commenter further states that
the fact that these roles might be ``decentralized'' does not change
that they would be considered a group of persons who constitutes,
maintains, or provides facilities for bringing together purchasers and
sellers of securities.\62\
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\55\ See Letter from Paul Grewal, Chief Legal Officer, Coinbase
Global, Inc., dated Apr. 18, 2022 (``Coinbase Letter'') at 7; a16z
Letter at 3; Blockchain Association Letter II at 8.
\56\ See a16z Letter at 10; ConsenSys Letter at 8; DeFi
Education Fund Letter at 3, 11; Blockchain Association Letter II at
3, 5; CoinList Letter at 2; Eisenbach Letter at 2. For example, one
commenter states that what it calls ``decentralized'' systems allow
anyone to participate rather than rely on gatekeepers. See ConsenSys
Letter at 8.
\57\ See Letter from Coin Center, dated Apr. 14, 2022 (``Coin
Center Letter'') at 13. Another commenter states that developers of
``DeFi protocols'' would not qualify as a ``group of persons''
because they ``merely make tools available for parties to
communicate.'' See DeFi Education Fund Letter at 15.
\58\ See, e.g., a16z Letter at 3; Coin Center Letter at 12;
CoinList Letter at 2; GDCA Letter II at 11; Blockchain Association/
DeFi Education Fund Letter at 5.
\59\ See, e.g., Letter from Robert Toomey, Managing Director and
Associate General Counsel, Securities Industry and Financial Markets
Association, dated June 13, 2022 (``SIFMA Letter II'') at 8.
\60\ See Coin Center Letter at 25. See also Delphi Digital
Letter at 9 (stating that participants could ``number in the
hundreds or thousands and be distributed all over the world'').
\61\ See Letter from James F. Tierney, Assistant Professor of
Law, University of Nebraska College of Law, dated June 13, 2022
(``Tierney Letter'') at 2 (stating that these participants in
``blockchain and other DeFi applications'' all ``might play
analogous roles to in-house counsel, market makers, and back-office
clearance roles in a traditional exchange setup'').
\62\ See id.
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The existence of smart contracts on a blockchain does not
materialize in the absence of human activity or a machine (or code)
controlled or deployed by humans. The Commission understands that,
typically, including for so-called ``DeFi'' trading systems, a single
organization constitutes, maintains, or provides the market place or
facilities for bringing together buyers and sellers of securities or
otherwise performs with respect to securities the functions commonly
performed by a stock exchange under section 3(a)(1) and Exchange Act
Rule 3b-16 thereunder.\63\
---------------------------------------------------------------------------
\63\ See IOSCO Decentralization Finance Report at 8 n.13
(stating that ``claims about decentralization for many projects may
not hold up to scrutiny of the technical reality of what can be
changed in the system, who can be involved in the decisions, and who
actually is involved'').
---------------------------------------------------------------------------
While it is common today for a single organization to provide a
market place or facilities to bring together buyers and sellers of
securities and meet the definition of an exchange, an exchange can also
exist where a market place or facilities are provided by a group of
persons, rather than a single organization.\64\ Under section 3(a)(1),
and Exchange Act Rule 3b-16(a), the term exchange ``means any
organization, association, or group of persons, whether incorporated or
unincorporated, which constitutes, maintains, or provides a market
place or facilities for bringing together buyers and sellers of
securities or perform with respect to securities the functions commonly
performed by a stock exchange.'' \65\ Thus, a group of persons, whether
incorporated or unincorporated, can together constitute, maintain, or
provide a market place or facilities or perform with respect to
securities the functions commonly performed by a stock exchange. In
determining which persons would be included in the group of persons
that constitutes, maintains, or provides an exchange or performs with
respect to securities the functions commonly performed by a stock
exchange, important factors would generally include whether the persons
act in concert in establishing, maintaining, or providing a market
place or facilities for bringing together buyers and sellers of
securities or in performing with respect to securities the functions
commonly performed by a stock exchange, or exercise control, or share
control, over aspects of such market place or facilities or the
performance of functions commonly performed by a stock exchange. In
particular, when a group of persons exercises control, or shares
control, over the organizational, financial, or operational aspects of
a market place or facilities for bringing together buyers and sellers
of securities, they are a group of persons that can be deemed to
constitute, maintain, or provide the market place or facilities.\66\
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\64\ The term ``person'' means a natural person, company,
government, or political subdivision, agency, or instrumentality of
a government. 15 U.S.C. 78c(a)(9).
\65\ In a recent decision, the United States Court of Appeals
for the District of Columbia Circuit held that the term ``group of
persons'' ``certainly includes closely connected corporate
affiliates'' and noted that ``[w]hether two or more persons are or
may be acting in concert is likely the key consideration'' in
determining whether two or more entities may constitute a ``group of
persons'' for purposes of the statute. Intercontinental Exch., Inc.
v. SEC, 23 F.4th 1013, 1024 (D.C. Cir. 2022). In addition, the court
stated that it was ``not suggest[ing] the term `group of persons' is
synonymous with corporate affiliation'' and that ``one corporation
that is affiliated with but not controlled by another may or may
not, depending upon the circumstances, be considered a `group of
persons' '' for the purposes of section 3(a)(1) of the Exchange Act.
See id.
\66\ In the Proposing Release, the Commission explained that,
depending on the activities of the persons involved with the market
place or facilities, a group of persons, who may each perform a
function of the market place that meets the criteria of Exchange Act
Rule 3b-16, can together provide, constitute, or maintain a market
place or facilities for bringing together buyers and sellers of
securities and together meet the definition of exchange. See
Proposing Release at 15506 n.109. See also Regulation ATS Adopting
Release at 70891 (``. . . any subsidiary or affiliate of a
registered exchange could not integrate, or otherwise link the
alternative trading system with the exchange, including using the
premises or property of such exchange for effecting or reporting a
transaction, without being considered a `facility of the exchange.'
''). In determining whether affiliated persons would be a ``group of
persons'' for the purposes of section 3(a)(1) of the Exchange Act
and Rule 3b-16 thereunder, an important factor is whether the
operations and management of the affiliated persons are separate.
For example, an affiliated entity of an exchange might not be
considered a group of persons with that exchange if there is
independent governance, management, and oversight between affiliated
entities; prevention of strategic coordination or information
sharing between the affiliated entities by way of information
barriers and other procedures; separation of functions relating to
technology, operations and infrastructure, sales and marketing,
branding, and staffing; and avoidance of business links, such as
routing, fees, billing, and membership.
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Whether persons act in concert or exercise control, or share
control, requires an analysis of the activities of each person and the
totality of facts and circumstances. In assessing whether a person
would be acting in concert with a group of persons, one factor to
consider, depending on other facts and circumstances, would be the
extent to which a person acts with an agreement (formal or informal) to
constitute, maintain, or provide a market place or facilities for
bringing together buyers and sellers of securities or to perform with
respect to securities a function commonly performed by a stock
exchange. For example, if one entity agrees with another entity to
combine aspects of each other's market places or facilities (e.g.,
order books, display functionalities, or matching engines) to bring
together buyers and sellers of securities, both entities could be
considered part of the group and thus an exchange.
[[Page 29455]]
Control could occur through several means, including, among other
things, ownership interest, corporate organizational structure and
management, significant financial interest, or the ability to determine
or modify participant access, securities traded, operations or trading
policies, or non-discretionary methods of the market place or
facilities. For example, a person that can determine or modify, either
individually or with others, the entering, storing, matching, or
display of trading interest (e.g., a matching engine, a smart contract)
would be exercising control over the operations of the market place or
facilities. In addition, a person that can determine or modify, or
grant or limit access to, for example, either individually or with
others, the market or other data about the securities and securities
transactions available on the market place or facility, order types,
order interaction procedures (e.g., counterparty selection,
segmentation), the priority or price at which trading interest will
execute, or protocols for negotiation, would have the ability to
determine trading policies or methods and exercise control over the
market place or facilities.
The ability to exercise control over a market place or facilities
is not limited solely to the operational control.\67\ Also, a person
that, for example, either individually or with others, can determine or
modify, with respect to the market place or facilities, the securities
made available for trading or the access requirements and conditions
for participation would be exercising control. In addition, a person
could exercise control by determining who can, and in what amount,
share in profits or revenues derived from the market place or
facilities, or by having the ability to enter into legal or financial
agreements or arrangements on behalf of or in the name of the market
place or facilities. Depending on the facts and circumstances,
significant holders of governance or other tokens, for example, could
also be considered part of the group of persons and thus an exchange if
they can control certain aspects of it.\68\
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\67\ See, e.g., Regulation ATS Adopting Release at 78052
(stating that a system that standardizes the material terms of
instruments traded on the system will be considered to use
established, non-discretionary methods).
\68\ This analysis would depend on facts and circumstances.
Whether a token holder can exercise control over a market place or
facilities and be considered part of a ``group of persons'' would
depend, for example, on the number of total token holders, or, if a
holder's votes are weighted proportionally to the size of their
holdings of tokens, the size of their holdings, as well as what
parameters the governance tokens are set to control (e.g.,
fundamental operational decisions, strategic direction of the
company, budgetary decisions, and ability to change the underlying
code), among other things.
---------------------------------------------------------------------------
Generally, an entity that engages a service provider or vendor to
operate a market place or facilities for bringing together buyers and
sellers of securities directs, manages, and oversees the activities of
the service provider or vendor. In this instance, the entity, not the
service provider or vendor, controls the market place or facilities,
and the entity is responsible for compliance with federal securities
laws. In certain circumstances, however, a service provider or vendor
could exercise control, or share control, over aspects of the market
place or facilities along with the entity that procured the service
provider or vendor. In that case, the service provider or vendor would
be considered a person within a group of persons that constitutes,
maintains, or provides the market place or facilities for bringing
together buyers and sellers of securities.\69\
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\69\ See Proposing Release at 15548. This would not encompass
purely administrative items, such as human resources support, or
basic overhead items, such as phone services, electricity, and other
utilities. In the Proposing Release, the Commission recognized that
an ATS may engage an entity other than the broker-dealer operator to
perform an operation or function of the ATS or a subscriber may be
directed to use an entity to access a service of the ATS, such as
order entry, disseminating market data, or display, for example. See
Proposing Release at 15548. In such instances, the ATS must ensure
that the entity performing the ATS function complies with Regulation
ATS with respect to the ATS activities performed. See id.
---------------------------------------------------------------------------
The group of persons that constitutes, maintains, or provides a
market place or facilities for bringing together buyers and sellers of
securities or performs with respect to securities the functions
commonly performed by a stock exchange, and is thus an exchange, would
collectively have the responsibility for compliance with federal
securities laws. A group of persons must consider how they will comply
with the Exchange Act registration requirements given their activities,
which can include, but are not limited to, designating a member of the
group,\70\ to register the group or forming an organization to register
as an exchange or, to operate as an ATS, registering as a broker-dealer
and becoming a member of Financial Industry Regulatory Authority
(``FINRA'') to ensure compliance with the requirements of the Exchange
Act, Commission rules, and FINRA rules.\71\
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\70\ The group of persons would be collectively responsible for
ensuring that the designated member of the group fulfills its
regulatory responsibilities.
\71\ An ATS that complies with Regulation ATS and registers as a
broker-dealer would be required to, among other things, comply with
the anti-money laundering and countering the financing of terrorism
(AML/CFT) obligations under the Bank Secrecy Act. 31 CFR 1023.210;
31 CFR 1023.320. The Bank Secrecy Act is codified at 31 U.S.C. 5311-
5314; 5316-5332 and 12 U.S.C. 1829b, 1951-1959. Additionally,
sections 5(a) and 5(c) of the Securities Act of 1933 (``Securities
Act'') generally prohibit any person, including broker-dealers, from
selling a security unless a registration statement is in effect or
has been filed with the Commission as to the offer and sale of such
security. See 15 U.S.C. 77e(a) and (c). A New Rule 3b-16(a) System
that operates as an ATS, which is a registered broker-dealer, could
be subject to liability under section 5 of the Securities Act for
facilitating the sale of a security by its customer on the ATS if
the sale of such security is not registered or an exemption from the
registration provisions does not apply. Section 4(a)(4) of the
Securities Act provides an exemption for ``brokers' transactions,
executed upon customers' orders on any exchange or in the over-the-
counter market but not the solicitation of such orders.'' See 15
U.S.C. 77d(a)(4). To rely on this exemption, a broker-dealer is
required to conduct a ``reasonable inquiry'' into the facts
surrounding a proposed unregistered sale of securities before
selling the securities to form reasonable grounds for believing that
a selling customer's part of the transaction is exempt from section
5 of the Securities Act. The Commission has stated that broker-
dealers ``have a responsibility to be aware of the requirements
necessary to establish an exemption from the registration
requirements of the Securities Act and should be reasonably certain
such an exemption is available.'' In the Matter of World Trade
Financial Corp., Securities Exchange Act Release No. 66114, 13 (Jan.
6, 2012) (quoting Stone Summers & Co., Securities Exchange Act
Release No. 9839, 3 (Nov. 3, 1972)).
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5. Group of Persons and So-Called ``DeFi'' Systems
One commenter states users of what it characterizes as ``DeFi''
protocols should not be considered part of a group of persons as they
act independently of each other.\72\ The commenter states that
developers and users of ``DeFi'' protocols would not qualify as a
``group of persons'' because the developers have no ongoing
relationship with either market participants or other financial
providers and merely make tools available for parties to communicate,
and users are acting independently of each other.\73\ Another commenter
describes that the ``DeFi protocols'' deploying AMM functionality rely
on many distinct groups or participants, which may not be ``affiliated
or extrinsically coordinated'' with one another.\74\
---------------------------------------------------------------------------
\72\ See DeFi Education Fund Letter at 15.
\73\ See id.
\74\ See Delphi Digital Letter at 9 (describing that ``[t]hey do
not co-own assets or operate a single enterprise for profit, do not
know each other's identities, and have diverse (and often competing)
motivations'').
---------------------------------------------------------------------------
Trading on so-called ``DeFi'' systems can involve multiple actors.
These actors can include, for example, the provider(s) of the DeFi
application or user interface, developers of AMMs or other DLT code,
decentralized autonomous organizations (``DAO''),
[[Page 29456]]
validators or miners,\75\ and issuers or holders of governance or other
tokens. Often, a single organization constitutes, maintains, or
provides a DLT-based market place or facilities for bringing together
buyers and sellers of securities or performs with respect to securities
the functions commonly performed by a stock exchange; however, a group
of persons can likewise do so. As indicated above, one possible avenue
for determining which persons comprise a group of persons can include
whether such persons act in concert to establish, provide, or maintain
a market place or facilities for securities or to perform with respect
to securities the functions commonly performed by a stock exchange, or
exercise control, or share control, over aspects of the market place or
facilities or the performance of functions commonly performed by a
stock exchange.\76\ These actors can form a group of persons if they
act in concert to perform, or exercise control or share control over,
different functions of a market place or facilities for bringing
together buyers and sellers of securities that, taken together, satisfy
the elements of existing Exchange Act Rule 3b-16(a) or Rule 3b-16(a),
as proposed to be amended.
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\75\ Validators and miners verify transactions on the underlying
blockchain and the function they perform is not only with respect to
a particular trading system. Validators and miners use a consensus
mechanism (e.g., proof-of-stake or proof-of-work) to verify and add
transactions to a distributed ledger in exchange for crypto assets.
See Crypto-Assets Treasury Report at 11-12.
\76\ See supra note 66.
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As discussed above, in assessing whether a person would be acting
in concert with a group of persons, one factor to consider, depending
on other facts and circumstances, would be the extent to which a person
acts with an agreement (formal or informal) to perform a function of a
market place or facilities for bringing together buyers and sellers of
securities.\77\ A software developer who, acting independently and
separate from an organization, publishes or republishes code without
any agreement (formal or informal) with any person for that code to be
used for a function of a market place or facilities for bringing
together buyers and sellers of securities may be less likely to be
acting in concert to provide a market place or facilities for bringing
together buyers and sellers.\78\ This could be the case even if the
software developer's code is subsequently adopted and implemented into
a market place or facilities for securities by an unrelated person.
Whether the activities of actors amount to a group of persons requires
an analysis of the totality of facts and circumstances and the
activities of each actor. If the activities of any combination of
actors constitute, maintain, or provide, together, a market place or
facilities for bringing together buyers and sellers for securities or
perform with respect to securities a function commonly performed by a
stock exchange, they could today be considered a group of persons and
thus an exchange under section 3(a)(1) of the Exchange Act and Rule 3b-
16 thereunder and therefore be required to register as an exchange
under section 5 of the Exchange Act.\79\
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\77\ See supra section II.B.4.
\78\ See, e.g., LeXpunK Letter at 15 (requesting that the
Commission clarify that persons who ``write and publish smart
contract code as a hobby or business, whether to an open-source
repository otherwise, and may not otherwise be subject to the
jurisdiction of the U.S.'' are not intended to be captured by the
Proposed Rules). If a software developer receives compensation for
publishing, independently from an organization, code for a trading
facility to match orders or a protocol for buyers and sellers to
negotiate a trade, the software developer could be acting in concert
with a group of persons to provide a market place or facilities for
bringing together buyers and sellers.
\79\ See, e.g., Regulation ATS Adopting Release at 70852 (``[I]f
an organization arranges for separate entities to provide different
pieces of a trading system, which together meet the definition
contained in paragraph (a) of Rule 3b-16, the organization
responsible for arranging the collective efforts will be deemed to
have established a trading facility.''). See also Proposing Release
at 15506 (stating the proposed change to use the phrase ``makes
available'' is intended to make clear that, in the event that a
party other than the organization, association, or group of persons
performs a function of the exchange, the function performed by that
party would still be captured for purposes of determining the scope
of the exchange under Exchange Act Rule 3b-16). The Proposing
Release also stated that, ``[d]epending on the activities of the
persons involved with the market place, a group of persons, who may
each perform a part of the 3b-16 system, can together provide,
constitute, or maintain a market place or facilities for bringing
together purchasers and sellers of securities and together meet the
definition of exchange. In such a case, the group of persons would
have the regulatory responsibility for the exchange.'' See id. at
15506 n.109. See also infra notes 101-103 and accompanying text.
---------------------------------------------------------------------------
One commenter states that attributing the function of constituting,
maintaining, or providing an exchange to persons who initially created
or deployed the system's code may not be practicable or advance the
Commission's policy objectives because according to the commenter, the
system, once deployed, typically cannot be significantly altered or
controlled by any such persons.\80\ A smart contract deployed to, and
run on, a blockchain is typically accompanied by other functionality to
bring together buyers and sellers of securities (e.g., a user interface
or website), and these functionalities can be provided and maintained
by more than one party. If, for example, an organization deploys a
smart contract that the organization cannot significantly alter or
control but constitutes a market place for securities under existing
Exchange Act Rule 3b-16 or Rule 3b-16, as proposed to be amended, then
that organization would be an exchange and would be responsible for
compliance with federal securities laws for that market place.\81\
Given that such a market place could be publicly available to bring
together buyers and sellers of securities, requiring the organization
to be responsible in this case would advance the Commission's policy
objectives by ensuring the exchange complies with federal securities
laws and regulations, including, among other things, the oversight,
investor protection, and fair and orderly market principles applicable
to registered exchanges and ATSs.
---------------------------------------------------------------------------
\80\ See Coinbase Letter at 6. Likewise, some commenters state
that software developers cannot modify or control the code they have
developed after it is launched. See Delphi Digital Letter at 8-9;
Blockchain Association/DeFi Education Fund Letter at 5; DeFi
Education Fund Letter at 11; Stinson Letter; Letter from Roman
Scher, dated Apr. 18, 2022.
\81\ See also supra 78 and accompanying text (discussing ``group
of persons'' involving a software developer acting independently and
separate from an organization).
---------------------------------------------------------------------------
6. Feasibility of Compliance With Exchange Regulatory Requirements
Some commenters state that so-called ``DeFi'' trading systems may
have difficulty complying with certain exchange regulatory
requirements.\82\ For example, one commenter states it is unclear that
any party would have the necessary information to comply with
Regulation ATS.\83\ In addition, some commenters question how DeFi
trading systems would comply with broker-dealer requirements.\84\
---------------------------------------------------------------------------
\82\ See, e.g., a16z Letter at 3; CoinList Letter at 2; GDCA
Letter II at 8, 10.
\83\ See a16z Letter at 15 (stating that there is no central
operator of a DeFi exchange that could complete Form ATS or comply
with periodic reporting requirements and that those who make
available AMMs cannot identify, track the orders of, or report to
the Commission information about users).
\84\ See, e.g., GDCA Letter II at 8; Blockchain Association
Letter II at 8; Letter from Lilya Tessler, Founder and Co-Chair,
Digital Asset Regulatory & Legal Alliance, Kristin Boggiano, Founder
and Co-Chair, Digital Asset Regulatory & Legal Alliance, Lee
Schneider, Co-Founder, Global Blockchain Convergence, Cathy Yoon,
Co-Founder, Global Blockchain Convergence, Renata Szkoda,
Chairwoman, Global Digital Asset & Cryptocurrency Association, dated
Apr. 14, 2022 (``DARLA, GBC, and Global DCA Letter'') at 9.
---------------------------------------------------------------------------
The investor protection, fair and orderly markets, transparency,
and oversight benefits of the federal securities laws are just as
relevant to a system that uses DLT and meets the existing criteria of
Exchange Act Rule
[[Page 29457]]
3b-16 and Rule 3b-16, as proposed to be amended, as to any other system
that meets the criteria under the exchange definition. From the
Commission's experience, systems that currently are registered as
national securities exchanges or comply with the conditions of
Regulation ATS differ with respect to structure, participants, and
established, non-discretionary methods and apply many assorted
technologies to bring together buyers and sellers of various types of
securities. The federal securities laws apply equally to systems that
trade securities, use DLT, and meet the criteria of Rule 3b-16 as to
any other exchange. The federal securities laws are flexible and the
use of DLT, or any other technology, does not make compliance
incompatible with the federal securities laws.\85\
---------------------------------------------------------------------------
\85\ See DAO 21(a) Report (stating that ``the automation of
certain functions through [distributed ledger or blockchain]
technology `smart contracts,' or computer code, does not remove
conduct from the purview of the U.S. federal securities laws'' and
that the requirements of the U.S. federal securities laws ``apply to
those who offer and sell securities in the United States, regardless
whether the issuing entity is a traditional company or a
decentralized autonomous organization, regardless whether those
securities are purchased using U.S. dollars or virtual currencies
and regardless whether they are distributed in certificated form or
through distributed ledger technology'').
---------------------------------------------------------------------------
One commenter states that ``many Communication Protocol Systems are
neither `brokers' nor `dealers' as defined by the Exchange Act because
they do not effect securities transactions,'' which the commenter
equates to ``order execution,'' and ``do not engage in the business of
buying and selling securities.'' \86\ The commenter states accordingly
that the option to qualify as an ATS is not available for Communication
Protocol Systems under current law, as only a registered broker-dealer
may qualify as an ATS.\87\
---------------------------------------------------------------------------
\86\ See GDCA Letter II at 11-13.
\87\ See id.
---------------------------------------------------------------------------
Regulation ATS establishes a regulatory framework for ATSs. An ATS
meets the definition of ``exchange'' under existing Exchange Act Rule
3b-16(a) and Exchange Act Rule 3b-16(a), as proposed to be amended, but
is not required to register as a national securities exchange if the
ATS complies with the conditions of Regulation ATS, which include
registering as a broker-dealer. Section 3(a)(4)(A) of the Exchange Act
defines ``broker'' as ``any person engaged in the business of effecting
transactions in securities for the accounts of others.'' \88\ The
question of whether a person is a broker within the meaning of section
3(a)(4) turns on the facts and circumstances of the matter. Under
section 3(a)(4)(A), the terms ``engaged in the business'' and
``effecting transactions'' are not defined by statute; however,
effecting transactions in securities includes more than just executing
trades or forwarding securities orders to a broker-dealer for
execution.\89\ In particular, the Commission stated that effecting
securities transactions can include participating in the transactions
through routing or matching orders, or facilitating the execution of a
securities transaction.\90\ In addition, courts have stated that a
person may be found to be acting as a ``broker'' if the person
participates in securities transactions ``at key points in the chain of
distribution.'' \91\ Accordingly, the Commission believes that a New
Rule 3b-16(a) System that seeks to operate as an ATS could register as
a broker-dealer.
---------------------------------------------------------------------------
\88\ 15 U.S.C. 78c(a)(4)(A). Section 3(a)(5)(A) defines
``dealer'' as any person engaged in the business of buying and
selling securities, with certain exceptions, for such person's own
account through a broker or otherwise. 15 U.S.C. 78c(a)(5)(A).
\89\ See Securities Exchange Act Release No. 44291 (May 11,
2001), 66 FR 27760, 27772-73 (May 18, 2001) (stating that effecting
securities transactions can include participating in the
transactions through (1) identifying potential purchasers of
securities; (2) screening potential participants in a transaction
for creditworthiness; (3) soliciting securities transactions; (4)
routing or matching orders, or facilitating the execution of a
securities transaction; (5) handling customer funds and securities;
and (6) preparing and sending transaction confirmations (other than
on behalf of a broker-dealer that executes the trades). Further, the
Commission stated in the Regulation ATS Adopting Release that a
trading system that falls within the Commission's interpretation of
``exchange'' in Rule 3b-16 will still be considered an ``exchange''
even if it matches two trades and routes them to another system or
exchange for execution and that whether or not the actual execution
of the order takes place on the system is not a determining factor
of whether the system falls under Exchange Act Rule 3b-16. See
Regulation ATS Adopting Release at 70852.
\90\ See Securities Exchange Act Release No. 44291 (May 11,
2001), 66 FR 27760, 27772-73 (May 18, 2001).
\91\ See Mass. Fin. Serv., Inc. v. Sec. Inv. Prot. Corp., 411 F.
Supp. 411, 415 (D. Mass. 1976), aff'd 545 F.2d 754 (1st Cir. 1976).
See also SEC v. Nat'l Exec. Planners, Ltd., 503 F. Supp. 1066, 1073
(M.D.N.C. 1980). Courts have also stated that in determining whether
a person has acted as a broker, several factors are considered,
including ``whether the person: (1) actively solicited investors;
(2) advised investors as to the merits of an investment; (3) acted
with a `certain regularity of participation in securities
transactions;' and (4) received commissions or transaction-based
remuneration.'' See, e.g., SEC v. U.S. Pension Trust Corp., 2010 WL
3894082, *20-21 (S.D. Fla. 2010).
---------------------------------------------------------------------------
Given that the Proposing Release applies to New Rule 3b-16(a)
Systems that use DLT, the Commission seeks responses to the following
questions:
4. Which, if any, activities performed on so-called ``DeFi''
trading systems meet the criteria of Rule 3b-16(a), as proposed to be
amended? For example, does the use of AMMs alone bring together
multiple buyers and sellers of securities through the use of non-firm
trading interest? Please explain. Please identify any relevant data,
literature, or other information that could assist the Commission in
analyzing this issue.
5. Please give examples of New Rule 3b-16(a) Systems for crypto
asset securities that use DLT or are so-called ``DeFi'' systems.
Approximately how many such systems exist? Please identify the types of
non-firm trading interest used and how participants use non-firm
trading interest on such systems. Please explain what these systems
trade (crypto asset securities or crypto assets) and the type of
participants (e.g., retail or institutional). How do participants on a
New Rule 3b-16(a) System for crypto asset securities that use ``DeFi''
systems, as characterized by commenters, negotiate trades for crypto
asset securities? Please identify any relevant data, literature, or
other information that could assist the Commission in analyzing these
issues.
6. Would an organization, association, or group of persons that is
a New Rule 3b-16(a) System and uses DLT to trade crypto asset
securities likely elect to register as a national securities exchange
or comply with the conditions of Regulation ATS? Please explain.
7. What are common characteristics of New Rule 3b-16(a) Systems for
crypto asset securities that use DLT? Further, what are common
characteristics of New Rule 3b-16(a) Systems for crypto asset
securities described as ``DeFi'' trading systems? Are there any
characteristics that heighten the need for investor protection and
market integrity under the exchange regulatory framework?
8. What are the various governance structures (e.g., the role of
governance token issuers or holders or of DAOs) of trading systems that
use DLT and how can such structures administer regulatory programs or
respond to regulatory oversight regarding activities on the system?
What activities do governance token issuers or holders or DAOs
undertake regarding the governance and operation of trading systems
that use DLT? Is there any concentration in voting and if so, how does
that arise? Are voting rights of governance tokens or DAOs capable of
being assigned or delegated and, if so, how is that done? How are
changes to trading systems that use DLT effected and how are changes
proposed to holders of voting rights under governance tokens or DAOs?
Under what circumstances should governance or other token issuers or
holders or DAOs be responsible for an exchange's regulatory compliance?
9. As noted in the above requests for comment in this section, the
[[Page 29458]]
Commission seeks additional data and other information about the use of
DLT as it relates to New Rule 3b-16(a) Systems. Please provide any such
data, literature, or other information about the topics noted above or
any other issue that would be relevant to the Commission's analysis of
the Proposed Rules.
III. Proposed Amendments to Exchange Act Rule 3b-16 Generally
A. Performs Functions Commonly Performed by a Stock Exchange
Some commenters state that the Proposing Release did not
demonstrate that systems that offer the use of non-firm trading
interest and provide non-discretionary protocols ``perform[] with
respect to securities the functions commonly performed by a stock
exchange as that term is generally understood,'' and assert that such a
finding is required under the statutory definition of ``exchange''
under section 3(a)(1) of the Exchange Act.\92\ In addition, some
commenters state that systems that offer the use of non-firm trading
interest and provide non-discretionary protocols to bring together
buyers and sellers of securities do not perform functions commonly
performed by a stock exchange, as that term is generally
understood.\93\
---------------------------------------------------------------------------
\92\ See, e.g., ConsenSys Letter at 14-15; DeFi Education Letter
at 13; Coinbase Letter at 3 n.9. One of the commenters also states
that in the Regulation ATS Adopting Release, the Commission assumed
that to meet the statutory definition, the system must be
``generally understood'' to be performing stock exchange functions
and ``anchored'' that rulemaking explicitly within the statutory
definition. See Coinbase Letter at 3 n.10. In addition, a commenter
opines that ``[m]erely indicating a possible interest in buying or
selling a security without mentioning the quantity or pricing terms
that would otherwise characterize an order would allow the
Commission to deem a platform an exchange despite it not `performing
with respect to securities the functions commonly performed by a
stock exchange.''' Blockchain Association Letter II at 4.
\93\ See, e.g., Coinbase Letter at 3; ConsenSys Letter at 13-14;
DARLA, GBC, and Global DCA Letter at 3-6; Letter from Gregory
Babyak, Global Head of Regulatory Affairs and Gary Stone, Regulatory
Analyst and Market Structure Strategist, Bloomberg L.P., dated Apr.
18, 2022 (``Bloomberg Letter I'') at 22.
---------------------------------------------------------------------------
The statutory definition of ``exchange'' is written in the
disjunctive: ``a market place or facilities for bringing together
purchasers and sellers of securities or for otherwise performing with
respect to securities the functions commonly performed by a stock
exchange as that term is generally understood'' (emphasis added).\94\
Thus, if an organization, association, or group of persons constitutes,
maintains, or provides a market place or facilities for bringing
together purchasers and sellers of securities, it would be an
``exchange''; it need not be demonstrated that the organization,
association, or group of persons also performs functions commonly
performed by a stock exchange as that term is generally understood. As
discussed in the Proposing Release, systems today that offer the use of
non-firm trading interest and provide non-discretionary protocols can
constitute, maintain, or provide a market place or facilities for
bringing together buyers and sellers of securities and meet the
criteria of Exchange Act 3b-16 as proposed to be amended.\95\
---------------------------------------------------------------------------
\94\ See 15 U.S.C. 78c(a)(1); Regulation ATS Adopting Release at
70900 n.544 (stating ``the statutory definition of `exchange' is
written in the disjunctive''). Section 3(a)(1) of the Exchange Act
states that an ``exchange'' includes any organization, association,
or group of persons that constitutes, maintains, or provides a
market place or facilities for bringing together purchasers and
sellers of securities or for otherwise performing with respect to
securities the functions commonly performed by a stock exchange as
that term is generally understood. Functions commonly performed by a
stock exchange as that term is generally understood include, among
other things, SRO functions and the listing of securities, by, for
example, establishing or enforcing qualitative or quantitative
listing standards. See Regulation ATS Adopting Release at 70880
(stating that ``[r]egistered exchanges are able to establish listing
standards, which may promote investor confidence in the quality of
the securities traded on the exchange'').
\95\ See Proposing Release at section II.C.
---------------------------------------------------------------------------
B. Makes Available Non-Discretionary Methods
In the Proposing Release, the Commission proposed to amend Exchange
Act Rule 3b-16(a) to provide that an organization, association, or
group of persons would be considered to constitute, maintain, or
provide an exchange if it: brings together buyers and sellers of
securities using trading interest; and makes available established,
non-discretionary methods (whether by providing a trading facility or
communication protocols, or by setting rules) under which buyers and
sellers can interact and agree to the terms of a trade. The Commission
proposed, among other changes, to replace the term ``uses'' with the
term ``makes available'' in 17 CFR 240.3b-16(a)(2) (``Rule 3b-
16(a)(2)''),\96\ and to add ``communication protocols'' as an example
of an established, non-discretionary method that an organization,
association, or group of persons can provide to bring together buyers
and sellers of securities.\97\ The Commission received comment on the
application of these proposed changes to all securities, including
comments requesting the Commission to provide further consideration and
opportunity for comments before adopting the proposed changes.\98\ The
Commission is now soliciting further comment on certain Proposed Rules.
---------------------------------------------------------------------------
\96\ See id. at 15506.
\97\ See id. at 15506-07.
\98\ See Bloomberg Letter I at 13-15; SIFMA Letter II at 7.
---------------------------------------------------------------------------
In the Proposing Release, the Commission discussed two reasons it
proposed to replace ``uses established, non-discretionary methods''
with the phrase ``makes available established, non-discretionary
methods.'' First, the Commission stated that the proposed change to use
the term ``makes available'' rather than ``uses'' is designed to
capture established, non-discretionary methods that an organization,
association, or group of persons may provide, whether directly or
indirectly, for buyers and sellers to interact and agree upon terms of
a trade.\99\ Unlike systems that ``use'' established non-discretionary
methods to match buyers and sellers, communication protocols systems
offer a different method for bringing together buyers and sellers by
providing protocols that allow participants to interact, negotiate, and
come to an agreement.\100\
---------------------------------------------------------------------------
\99\ See Proposing Release at 15506.
\100\ See id.
---------------------------------------------------------------------------
Second, the term ``makes available'' was intended to make clear
that, in the event that a party other than the organization,
association, or group of persons performs a function of the exchange,
the function performed by that party would still be captured for
purposes of determining the scope of the exchange under Exchange Act
Rule 3b-16.\101\ The Commission has previously stated that it will
attribute the activities of a trading facility to a system if that
facility is offered by the system directly or indirectly (such as where
a system arranges for a third party or parties to offer the trading
facility).\102\ The Commission also recognized how a system may consist
of various functionalities, mechanisms, or protocols that operate
collectively to bring together the orders for securities of multiple
buyers and sellers using non-discretionary methods under the criteria
of Rule 3b-16(a), and how, in some circumstances, these various
functionalities, mechanisms, or protocols may be offered or performed
by another business unit of the broker-dealer operator or by a separate
entity.\103\ The Commission stated that these principles apply equally
to an organization, association, or group of persons that arranged with
another
[[Page 29459]]
party to provide, for example, a trading facility or communication
protocols, or parts thereof, to bring together buyers and sellers and
perform a function of a system under Rule 3b-16.\104\ Consistent with
the principles in the Regulation ATS Adopting Release, the term ``makes
available'' would help ensure that the investor protection and fair and
orderly markets provisions of the exchange regulatory framework apply
to the activities performed through all functionalities, mechanisms, or
protocols of a market place that meet the criteria of Rule 3b-16(a),
notwithstanding whether those activities are performed by a party other
than the organization that provides the market place.\105\
---------------------------------------------------------------------------
\101\ See id.
\102\ See id. (citing Regulation ATS Adopting Release at 70852).
\103\ See id.
\104\ See id.
\105\ See id. See also Regulation ATS Adopting Release at 70851-
52.
---------------------------------------------------------------------------
Commenters state that the proposed use of the term ``makes
available'' would extend the scope of the exchange definition to a
broad set of entities that provide services to a system and its
participants and potentially create uncertainty and ambiguity.\106\ One
commenter states that the Proposing Release opens up the possibility
that systems interacting with the ATS are themselves separate exchanges
and questions when two or more unrelated entities might be viewed as
collectively providing the services of an exchange.\107\ One commenter
expresses concern that the Proposed Rules would broaden the definition
of ``exchange'' to include entities that do not themselves take an
active role in matching orders but instead contribute in some manner to
the efforts of buyers and sellers to identify each other and arrange
trades, and that anyone who contributes to the existence of trading
protocols could be considered to make them available.\108\ Another
commenter states that the Proposed Rules do not address ``open-
architecture platforms that integrate with or embed in a third-party
application'' and asks whether such activity would constitute making
available communication protocols.\109\ One commenter states that the
proposed term ``makes available'' would expand the groups of persons
subject to the Exchange Act to include those who expressly do not fall
under the statutory language of section 3(a)(1)--``a party other than
the organization, association, or group of persons'' that performs a
function on the exchange.\110\ In addition, one commenter states the
definition should only include entities that make available systems
``with the intent to profit from trades to which they are not a party''
and exclude those that integrate software available in the public
domain and perform the role without a profit motive.\111\
---------------------------------------------------------------------------
\106\ See, e.g., Letter from Gregory Babyak and Gary Stone,
Regulatory Affairs, Bloomberg L.P., dated Sept. 16, 2022
(``Bloomberg Letter II'') at 2; Letter from Elisabeth Kirby, Head of
U.S. Market Structure, Tradeweb Markets, Inc., dated Apr. 18, 2022
(``Tradeweb Letter'') at 5; Letter from Ken McGuire, President,
Aditum Alternatives & Aditum Asset Management, dated Feb. 21, 2022
(``Aditum Letter'') at 2; Letter from Gene Hoffman, President &
Chief Operating Officer, Chia Network, dated Apr. 16, 2022 (``Chia
Network Letter'') at 4-7; DARLA, GBC, and Global DCA Letter at 6-7;
ConsenSys Letter at 13, 16-17; Blockchain Association Letter II at
8-9; ADAM Letter II at 8, 16; Eisenbach Letter at 2.
\107\ See SIFMA Letter II at 9 n.23.
\108\ See ConsenSys Letter at 16-17. See also DeFi Education
Fund Letter at 9-10 (stating that ``systems providing communication
and other financial technology adjacent to trading, such as bespoke
direct messaging or market information services, could be captured
under the overbroad `makes available' standard'').
\109\ See Letter from Corinna Mitchell, General Counsel,
Symphony Communication Services, dated Apr. 18, 2022 at 4. See also
DeFi Education Fund Letter at 9-10 (stating the ``makes available''
language could subject software developers to exchange regulation
``solely on the basis of having lines of their code subsequently
used by unrelated parties''); Tradeweb Letter at 5 (stating that the
proposed language might affect various forms of software tools
widely used in the securities industry).
\110\ See Blockchain Association Letter II at 4-5 (quoting the
Proposing Release at 15506).
\111\ See Aditum Letter at 2.
---------------------------------------------------------------------------
Request for Comment
10. In the Regulation ATS Adopting Release, the Commission stated
that it would ``attribute the activities of a trading facility to a
system if that facility is offered by the system directly or indirectly
(such as where a system arranges for a third party or parties to offer
the trading facility).'' \112\ In explaining the term ``makes
available'' in the Proposing Release, the Commission stated that it was
``designed to capture established, non-discretionary methods that an
organization, association or groups of person may provide, whether
directly or indirectly.'' \113\ To ensure that an exchange function
performed by a party is appropriately captured under Exchange Act Rule
3b-16, should the Commission adopt alternative language to ``makes
available''? Please explain. For example, should the Commission adopt
``Uses established, non-discretionary methods (whether by providing,
directly or indirectly, a trading facility. . .)''? Would the addition
of the phrase ``directly or indirectly'' align Rule 3b-16 more closely
with prior Commission statements in the Regulation ATS Adopting Release
\114\ and focus the rule text on a function that a party performs in
the provision of an established, non-discretionary method to bring
together buyers and sellers? Would the phrase ``directly or
indirectly'' reduce commenters' concerns about the proposed ``makes
available'' language being overbroad? Why or why not? What, if any,
limiting principles should be applied to determining when a person
provides ``directly or indirectly'' a trading facility or communication
protocols (or ``negotiation protocols'')? \115\ Please explain.
---------------------------------------------------------------------------
\112\ See Regulation ATS Adopting Release at 70852.
\113\ See Proposing Release at 15506.
\114\ See id. (citing Regulation ATS Adopting Release at 70852).
\115\ See infra Request for Comment #13.
---------------------------------------------------------------------------
11. The Commission proposed to remove the term ``uses'' and insert
the term ``makes available'' before ``established, non-discretionary
methods'' because the Commission proposed to include as an established,
non-discretionary method communication protocols under which buyers and
sellers can interact and agree to the terms of a trade. Communication
protocols would be in addition to a trading facility, which is an
existing established, non-discretionary method under existing Exchange
Act Rule 3b-16(a)(2) and is used by the provider of the exchange to
match buyers and sellers. Instead of the terms ``uses'' and ``makes
available,'' should the Commission adopt amendments to Exchange Act
Rule 3b-16(a)(2) that state ``[E]stablishes non-discretionary methods
(whether by providing, directly or indirectly, a trading facility or .
. .)''? The addition of the term ``establishes'' would adhere to the
concept of ``established'' in existing Exchange Act Rule 3b-16(a)(2)
and be consistent with the Commission's explanation in the Regulation
ATS Adopting Release that the person who establishes non-discretionary
methods is dictating the terms of trading among buyers and sellers on
the system.\116\ For example, an organization that establishes a non-
discretionary method would be providing a trading facility or providing
communication protocols (or ``negotiation protocols'' \117\) or setting
rules for buyers and sellers to interact and agree upon the terms of a
trade.
---------------------------------------------------------------------------
\116\ See Regulation ATS Adopting Release at 70850.
\117\ See infra Request for Comment #13.
---------------------------------------------------------------------------
C. Non-Discretionary Method: Communication Protocols
In the Proposed Rules, the Commission proposed to add
``communication protocols'' to Exchange Act Rule 3b-16(a) as a non-
discretionary method that an
[[Page 29460]]
organization, association, or group of persons could provide for buyers
and sellers to interact and agree upon the terms of a trade.\118\ In
the Proposing Release, the Commission explained that communication
protocols, which can be applied to various technologies and
connectivity, are provided along with the use of non-firm trading
interest (as opposed to firm orders) to prompt and guide buyers and
sellers to communicate, negotiate, and agree to the terms of the
trade.\119\ The Commission also provided examples of trading systems
that function as market places or facilities for securities by
providing communication protocols.\120\ The Commission provided an
example of an entity making available a chat feature that has the
additional requirement that certain information be included in a chat
message (e.g., price, quantity) and also setting parameters and
structure designed for participants to communicate about buying or
selling securities as a system that would have established
communication protocols.\121\ The Commission also explained what would
not be a communication protocol system for purposes of the Proposed
Rules.\122\
---------------------------------------------------------------------------
\118\ See Proposing Release at 15507.
\119\ Id.
\120\ See id. at 15500-01. These trading systems could include,
among others, RFQ systems, stream axes, conditional order systems,
and bilateral negotiation systems.
\121\ See id. at 15507.
\122\ See, e.g., id. For example, the Commission stated that it
did not intend for communication protocols to include systems that
only provide the connectivity or technology that allows buyers and
sellers to communicate (such as utilities or providers of stand-
alone electronic web chat) without also establishing non-
discretionary methods that govern how the communications are allowed
to proceed as participants agree to the terms of a trade. See id.
---------------------------------------------------------------------------
The Commission received comment that the term ``communication
protocol'' is too broad and vague and that it is unclear what
activities or entities would be classified as communication protocol
systems.\123\ Commenters suggest that the Commission should define the
term ``communication protocol system'' to avoid uncertainty as to who
is included or not included under its scope.\124\ Commenters state that
the broad concept of a communication protocol system could capture
various types of technologies used by market places for securities,
including, for example, front-end graphical user interfaces (``GUIs''),
web chat providers,\125\ primary market communication systems,\126\
software solutions,\127\ or trading desks of a broker-dealer.\128\
Commenters state that the uncertainty could give the impression that
employing the term expands the scope of exchange regulation to all
communication methods.\129\
---------------------------------------------------------------------------
\123\ See, e.g., Letter from Lindsey Weber Keljo, Head of Asset
Management Group, William C. Thum, Managing Director and Assistant
General Counsel, Securities Industry and Financial Market
Association, dated Apr. 18, 2022 (``SIFMA AMG Letter'') at 6; Letter
from Charles V. Callan, Broadridge Financial Solutions, Inc., dated
Apr. 18, 2022 (``Broadridge Letter'') at 2; Letter from Douglas A.
Cifu, Chief Executive Officer, Virtu Financial, Inc., dated Apr. 18,
2022 (``Virtu Letter'') at 11; Letter from Jennifer W. Han, Managed
Funds Association, dated Apr. 18, 2022 (``MFA Letter'') at 7-10;
Letter from David R. Burton, Senior Fellow in Economic Policy, The
Heritage Foundation, dated Apr. 18, 2022 (``Burton Letter'') at 2.
\124\ See, e.g., Healthy Markets Letter at 6; Letter from Scott
Pintoff, General Counsel, MarketAxess, dated Apr. 18, 2022
(``MarketAxess Letter'') at 5; Broadridge Letter at 2; Virtu Letter
at 11. Another commenter, in expressing concern about the scope of
the Proposed Rules, describes that the Proposed Rules did not define
``communication protocol system.'' See McHenry/Huizenga Letter at 2.
\125\ See, e.g., GDCA Letter II at 9; Coin Center Letter at 19-
20.
\126\ See Letter from Scott Eisenberg, Head of Legal,
DirectBooks LLC, dated Apr. 18, 2022.
\127\ See SIFMA Letter II at 9.
\128\ See Letter from Christopher A. Iacovella, Chief Executive
Officer, American Securities Association, dated Apr. 18, 2022 (``ASA
Letter'') at 3.
\129\ See, e.g., Bloomberg Letter I at 19; Chia Network Letter
at 2 (stating that ``the Commission's proposed amendments [put] the
entire internet and connectivity businesses in jeopardy of tripping
over the [Exchange Act]'').
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Request for Comment
12. In existing Exchange Act Rule 3b-16(a)(2), non-discretionary
methods include providing a trading facility or setting rules governing
the interaction of orders. ``Trading facility'' and ``setting rules''
are not defined in the rule text but are explained in the Regulation
ATS Adopting Release and the Commission provided examples of each.\130\
The Commission proposed ``communication protocols'' as another non-
discretionary method for trading interest in the Proposing Release.
Should the Commission adopt Exchange Act Rule 3b-16(a)(2), as proposed
to be amended, to include ``communication protocols'' as an example of
a non-discretionary method under which buyers and sellers can interact
and agree to the terms of a trade? Why or why not? In addition to the
guidance provided in the Regulation ATS Adopting Release, should the
Commission provide guidance on what ``non-discretionary methods'' means
under Exchange Act Rule 3b-16?
---------------------------------------------------------------------------
\130\ See Regulation ATS Adopting Release at 70851-52. The
Regulation ATS Adopting Release stated that the Commission intended
for `` `established, non-discretionary methods' to include any
methods that dictate the terms of trading among the multiple buyers
and sellers entering orders into the system.'' Id. at 70850.
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13. To reflect systems that provide non-discretionary methods under
which buyers and sellers negotiate terms of a trade, should the
Commission adopt amendments to Exchange Act Rule 3b-16(a)(2) that
replace the proposed term ``communication protocols'' with the term
``negotiation protocols'' and adopt the following definition under a
new Rule 3b-16(f):
For purposes of this section, the term ``negotiation protocols''
means a non-discretionary method that sets requirements or limitations
designed for multiple buyers and sellers of securities using trading
interest to interact and negotiate terms of a trade.
14. As discussed above, some commenters state that the term
``communication protocol'' is too broad and vague and that it is
unclear what activities or entities would be classified as
communication protocol systems.\131\ The term ``negotiation protocols''
could better focus the non-discretionary methods that the Commission
intended to capture in the proposed amendments to Exchange Act 3b-
16(a)(2) than the term ``communication protocols.'' The term
``negotiation protocols'' would be another example, in addition to
directly or indirectly providing a trading facility or setting rules,
of a non-discretionary method established by an exchange under which
buyers and sellers can negotiate and agree to the terms of a trade.
What are commenters' views of the term ``negotiation protocols''? Are
there any terms that should be added, deleted, or modified in the
definition of ``negotiation protocol'' to make the definition more
precise or appropriate? Are there other non-discretionary methods under
which buyers and sellers can interact and agree to the terms of a trade
that the Commission should add to Rule 3b-16(a)(2)? If so, please
explain. What other types of protocols under which buyers and sellers
can interact and agree to the terms of a trade exist or can be
provided?
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\131\ See supra note 123.
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15. The definition of ``negotiation protocols'' described above
would set requirements or limitations designed to govern how the
trading interest is used by participants to interact and negotiate a
trade. Should a definition of ``negotiation protocols'' specify both
requirements and limitations that would constitute a non-discretionary
method? Why or why not?
16. As an alternative to adopting a definition of ``negotiation
protocols'' in the rule text, should the Commission provide an
explanation and examples of what negotiation protocols are and are not
in any adopting release, similar to what the Commission did in the
Regulation ATS Adopting Release when
[[Page 29461]]
analyzing the application of Rule 3b-16 to hypothetical Systems A
through T? \132\ In the Proposing Release, the Commission provided
examples of trading systems that offer the use of non-firm trading
interest and established protocols that would meet the criteria of
Exchange Act 3b-16, as proposed to be amended (e.g., RFQ, conditional
order systems, indication of interest systems).\133\ Should the
Commission adopt those examples as hypotheticals that would meet the
criteria of Rule 3b-16 similar to the hypotheticals in the Regulation
ATS Adopting Release? Please explain. Should the examples that the
Commission provided in the Proposing Release change in any way? Are
there any other examples that the Commission should adopt to describe
New Rule 3b-16(a) Systems? Please describe any such examples.
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\132\ See Regulation ATS Adopting Release at 70854-56.
\133\ See Proposing Release at 15500-01.
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17. As discussed above, whether an organization, association, or
group of persons meets the definition of an exchange depends on the
activities performed and not the technology used. The Commission
received comments requesting the Commission clarify that order
management systems, order execution systems, and order execution
management systems (collectively referred to as ``OEMS'' technology) do
not meet the criteria of Rule 3b-16, as proposed to be amended.\134\
The Commission understands that brokers, dealers, and investment
advisers use OEMS technology to carry out their respective Commission-
regulated activities. The proposed amendments to Rule 3b-16 were not
designed to capture within the definition of exchange the activities of
brokers, dealers, and investment advisers who use an OEMS to carry out
their functions (e.g., organizing and routing trading interest). The
use of OEMS technology, however, like other types of technology, could
be used, in certain circumstances, to perform exchange activities
(e.g., crossing orders of multiple buyers and sellers using established
non-discretionary methods). The Commission requests comment on what
activities are performed today using OEMS technology and how the use of
OEMS technology might change in the future. The Commission requests
comment on whether and how activities performed through the use of OEMS
technology could meet the criteria of Rule 3b-16(a), as proposed to be
amended. Please explain why or why not.
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\134\ See Bloomberg Letter I at 16; SIFMA AMG Letter at 11;
Broadridge Letter at 3; MFA Letter at 9; Letter from Kelvin To,
Founder and President, Data Boiler Technologies, LLC, dated Apr. 18,
2022 at 9. Several commenters express general concerns about and set
forth policy arguments against including OEMSs within the
Commission's exchange regulation. See, e.g., SIFMA AMG Letter at 6
(asserting that ``the Commission's drafting risks moving too far
beyond trading venues and is potentially capturing a broad range of
OEMS, ETF portal, and single user systems carefully developed by a
diverse group of market participants to introduce efficiencies and
costs savings into the market, but which do not allow for separate
users to interact and do not directly connect with multiple brokers
to confirm the non-discretionary execution of orders''); Letter from
Sarah Bessin, Associate General Counsel, Investment Company
Institute, dated Apr. 18, 2022 (``ICI Letter'') at 9 (arguing that
there are no perceived regulatory benefits from applying the ATS or
broker-dealer regulatory framework to internalized trading activity
on OEMSs, which is independently regulated, and stating that it may
``frustrate advisers' ability to seek best execution on behalf of
their clients'').
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18. In light of comments that the concept of a communication
protocol system could capture various types of technologies used by
market participants for securities (e.g., GUIs, web chat providers,
primary market communication systems, software solutions, or trading
desks of a broker-dealer), please explain in detail and provide
examples of the specific activities performed through the use of such
technology identified by commenters.
19. In response to the Proposing Release, the Commission received
several comments expressing concern that the expansion of Exchange Act
Rule 3b-16 might encompass general internet chat services, such as
WhatsApp, Twitter, and Reddit.\135\ As stated in the Proposing Release,
systems that provide general connectivity for persons to communicate
without protocols containing requirements and limitations to negotiate
trades for securities (e.g., utilities or electronic web chat
providers) would not fall within the definition of exchange, as
proposed to be amended.\136\ However, the determination as to whether a
given system would meet the criteria under Rule 3b-16(a), as proposed
to be amended, must be based on the facts and circumstances surrounding
the operation of the system, not the market name or categorization
(i.e., simply because a program is called a ``chat'' or ``messaging''
service, it does not mean the service is per se outside the scope of
Rule 3b-16(a), as proposed to be amended). For example, if a chat or
messaging service was provided with a display functionality for trading
interest in securities, an execution facility for securities, or
protocols for participants to negotiate, the mere fact that the system
contains a chat feature or message service would not necessarily
preclude it from meeting the criteria of Rule 3b-16 as proposed to be
amended. What features of a chat or message service could be considered
protocols (i.e., requirements or limitations) under Rule 3b-16, as
proposed to be amended, that would allow buyers and sellers to interact
and negotiate a trade for securities? Are there currently any types of
chat services that are solely used for discussing securities but are
not used for negotiating a securities trade? Are there any types of
chat services that are currently designed for buyers and sellers to
interact and negotiate a trade for securities? Please explain why or
why not.
---------------------------------------------------------------------------
\135\ See, e.g., Chia Network Letter at 4-7 (stating that the
expansion to parties that ``make available'' established, non-
discretionary methods could capture large numbers of internet and
telecommunications providers, including any company that makes any
sort of messaging system available to internet users such as Twitter
and Reddit, and creates regulatory uncertainty for all such
entities); GDCA Letter II at 10 (stating that the term trading
interest ``sweeps up dialogue that otherwise would be outside the
rules,'' such as `` `inadvertent' or `incidental' exchange
activity'' through protocols ``with a primary social or business use
unrelated to trading'' that are ``used secondarily or incidentally
for trading'').
\136\ See Proposing Release at 15502 n.72.
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20. Do commenters believe that there are other technologies, such
as social networking websites, business communication platforms,
financial information systems, blockchain technology nodes and smart
contracting platforms,\137\ that could be used to perform activities
that meet the criteria of Exchange Act Rule 3b-16(a), as proposed to be
amended? Are there any features of these systems that could be
considered protocols (i.e., requirements or limitations) that allow
buyers and sellers to interact and negotiate a trade for securities?
Please explain.
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\137\ See infra note 278.
---------------------------------------------------------------------------
21. Form ATS is designed to enable the Commission to determine
whether an ATS subject to Regulation ATS is in compliance with
Regulation ATS and other federal securities laws.\138\ Form ATS
provides disclosures about, among other things, classes of subscribers,
securities traded, manner of operation, and procedures governing the
execution, reporting, clearance, and settlement of transactions.
Proposed Item 3(c) of Form ATS (current Form ATS Exhibit B) requires an
ATS to disclose a list of securities the ATS trades or expects to
trade, and requires disclosure of all securities, which includes crypto
asset securities.\139\
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\138\ See Form ATS Instruction A.6.
\139\ See Proposing Release at 15653.
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[[Page 29462]]
22. Form ATS-N is designed to provide market participants with
information to, among other things, help them make informed decisions
about whether to participate on an NMS Stock ATS (and, as proposed, on
a Government Securities ATS).\140\ Proposed Part I, Item 8 of Form ATS-
N would require an NMS Stock ATS or Government Securities ATS to
disclose information about the NMS stocks and government securities
that it makes available for trading, which would include any NMS stocks
or government securities that are crypto asset securities.\141\ Should
the Commission adopt an amendment to proposed Item 3(c) of Form ATS or
proposed Part I, Item 8 of Form ATS-N to require ATSs and NMS Stock
ATSs and Government Securities ATSs to specifically identify the
securities that are crypto asset securities? Why or why not? Should the
Commission make any other changes to Form ATS and Form ATS-N in light
of the Proposing Release and the information provided in this Reopening
Release?
---------------------------------------------------------------------------
\140\ See Form ATS-N Instruction D.
\141\ See Proposing Release at 15542.
---------------------------------------------------------------------------
23. Form ATS-R, which is filed on a quarterly basis and deemed
confidential when filed, is designed to enable the Commission to more
effectively track the growth and development of ATSs, as well as to
more effectively comply with its statutory obligations with respect to
ATSs, and improve investor protection.\142\ Among other things, Form
ATS-R requires ATSs to list all securities that were traded on the ATS
at any time during the period covered by the report \143\ and to report
total unit and dollar volume of transactions for certain categories of
securities.\144\ Should Form ATS-R be amended to require ATSs to
indicate whether any of the types of securities traded on the ATS are
crypto asset securities? For example, should Form ATS-R include a
checkbox for each type of security listed on Form ATS-R for the ATS to
indicate whether any of the securities transacted are crypto asset
securities? Why or why not? Should Form ATS-R be amended to require an
ATS to report the total unit and dollar volume of transactions in
crypto asset securities for each category of securities? Why or why
not? Should the Commission make any other changes to Form ATS-R in
light of the Proposing Release and the information provided in this
Reopening Release?
---------------------------------------------------------------------------
\142\ See Form ATS-R Instruction A.7.
\143\ See Form ATS-R Item 3. Form ATS-R also requires a list of
all subscribers that were participants of the ATS during each
calendar quarter. See Form ATS-R Item 2.
\144\ See Form ATS-R Item 4. For example, Form ATS-R requires
NMS Stock ATSs to report the total unit and dollar volume of
transactions in NMS stocks that are reported to the consolidated
tape in ``Listed Equity Securities'' (Item 4A), ``Nasdaq National
Market Securities'' (Item 4B), or ``Nasdaq SmallCap Market
Securities'' (Item 4C). In the Proposing Release, the Commission
proposed to delete the categories ``Nasdaq National Market
Securities'' and ``Nasdaq SmallCap Market Securities'' and require
ATSs to report the total volume previously reported under these
categories under ``Listed Equity Securities.'' See Proposing Release
at 15580.
---------------------------------------------------------------------------
24. Information about a New Rule 3b-16(a) System's operations,
including operations related to non-firm trading interest and protocols
provided for buyers and sellers to interact and negotiate the terms of
a trade, would be responsive to proposed Item 3(g) of Form ATS, which
requires a description of the manner of operation of the ATS. To assist
New Rule 3b-16(a) Systems in responding to Form ATS, should the
Commission adopt an amendment to proposed Item 3 of Form ATS to add the
following requirement as a disclosure: ``any display of trading
interest'' and ``protocols provided for buyers and sellers to interact
and negotiate the terms of a trade''? Please explain why or why not.
Although this information would be responsive to current Form ATS Item
8(a) and would be required to be included in current Form ATS Exhibit
F, the explicit references would make clear to ATSs that such
information is responsive to the form and must be provided.
25. Proposed Item 3(j) of Form ATS (current Form ATS Item 8(d),
which is required to be disclosed on Exhibit F) would require an ATS to
provide ``a description of the procedures governing execution,
reporting, clearance, and settlement of transactions effected through
the [ATS].'' \145\ Should the Commission adopt an amendment to the Item
to include a reference to the use of DLT among the procedures so that
the Item would state that the ATS must include ``a description of the
procedures, including through use of DLT, governing execution,
reporting, clearance, and settlement of transactions effected through
the alternative trading system''? Please explain why or why not.
Although a description of the use of DLT, or any other technology, in
these processes is currently required by the term ``procedures,'' the
explicit reference to DLT would make clear that a description of its
use would be required to be provided in Form ATS.
---------------------------------------------------------------------------
\145\ See id. at 15654.
---------------------------------------------------------------------------
26. As discussed above, several commenters ask questions about how
so-called ``DeFi'' systems could comply with the requirements of
Regulation ATS.\146\ Form ATS-N, which provides operational
transparency and regulatory oversight of NMS Stock ATSs and, as
proposed, of Government Securities ATSs, is technology neutral and asks
questions designed to apply to ATSs that vary in structure and offer
many different functionalities and trading processes and procedures.
However, Form ATS-N provides examples of specific functionalities and
procedures that would be responsive to particular questions. To assist
subject systems in responding to Form ATS-N, should the Commission
adopt any changes, particularly to the examples provided in Form ATS-N,
to clarify and highlight the applicability of certain items in Form
ATS-N to NMS Stock ATSs and Government Securities ATSs that use DLT?
Should, for example, the Commission adopt amendments to proposed Part
II, Item 5 to provide examples of other products and services that the
operator of a system that uses DLT may provide for the purpose of
effecting transactions or submitting, disseminating, or displaying
trading interest on the ATS? \147\ Should the Commission adopt
amendments to Part III, Item 5(a) to provide web-based systems as an
example of means by which the NMS Stock ATS or Government Securities
ATS permits trading interest to be entered directly into the ATS? \148\
Should the Commission adopt amendments to Part III, Item 15 to provide
examples of blockchain-based means by which trading interest can be
displayed or made known to the ATS subscribers or the public? \149\
Should the Commission adopt amendments to proposed Part III, Item 21 to
provide examples of blockchain-based procedures to manage the post-
trade processing, clearance, and/or settlement on the ATS? \150\ Should
the Commission adopt amendments to proposed Part III, Item 22 to
provide examples of blockchain-based market data sources? \151\
---------------------------------------------------------------------------
\146\ See, e.g., supra note 55.
\147\ See Proposing Release at 15546-48.
\148\ See id. at 15552-53.
\149\ See id. at 15563-65. Such amendments could provide
examples of blockchain-based means by which: an ATS may display
trading interest to its subscribers or the public; a subscriber can
display or make known trading interest through the ATS; and trading
interest bound for the ATS is made known to any person. See id.
\150\ See id. at 15568-69.
\151\ See id. at 15569.
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D. Exclusion From Exchange Act Rule 3b-16(a)
In the Proposing Release, the Commission proposed to amend Rule 3b-
16(b) to add an exclusion from Rule 3b-16(a) for systems that allow an
issuer
[[Page 29463]]
to sell its securities to investors.\152\ The Commission stated in the
Proposing Release that the exclusion was merely codifying in Rule 3b-
16(b)(3) an example the Commission provided in the Regulation ATS
Adopting Release for systems that have a single seller of its
securities.\153\ While such systems have multiple buyers (i.e.,
investors), they have only one seller for each security (i.e., issuers)
and, therefore, do not meet the criteria of Rule 3b-16(a) because the
systems do not bring together multiple buyers and multiple
sellers.\154\
---------------------------------------------------------------------------
\152\ See proposed Rule 3b-16(b)(3).
\153\ See Regulation ATS Adopting Release at 70849.
\154\ Id.
---------------------------------------------------------------------------
One commenter states that it is unclear whether the issuer
exclusion would cover portals on which multiple issuers offer
securities.\155\ Another commenter suggests that the exclusion for
issuer systems should be revised to state that it applies to a system
that ``allows one or more issuers to sell their securities to
investors, either directly or through placement agents or
underwriters.'' \156\ This commenter states that a system that allows
more than one issuer to sell its own securities is a single
counterparty system because for any particular security, there is only
one counterparty, the issuer of the securities.\157\ This commenter
further states that including the phrase ``or through placement agents
or underwriters'' is needed to make clear that the issuer exclusion may
continue to be applied if the system permits an issuer to use brokers
or underwriters, and this approach is desirable because it permits the
interposition of registered brokers, who provide a multitude of
services protective of the rights of investors.\158\
---------------------------------------------------------------------------
\155\ See SIFMA AMG Letter at 8.
\156\ See ABA Letter at 8.
\157\ Id. at 9.
\158\ Id.
---------------------------------------------------------------------------
Two commenters request that the Commission confirm that a system or
portal that an exchange-traded fund (``ETF'') sponsor uses to
facilitate ETF primary market operations (i.e., creation and redemption
of ETF shares) (``ETF Portal'') is not a communication protocol system,
as defined in the Proposing Release, and otherwise does not meet the
definition of ``exchange,'' as proposed to be amended.\159\ The
commenters state that ETF Portals enable registered broker-dealers that
serve as an ETF's authorized participants (``APs'') to communicate
creation or redemption requests for an ETF.\160\ One of the commenters
states that ETF Portals do not create a market place for secondary
market trading activity (i.e., trading of the actual ETF shares among
individual investors) because they are used by ETF sponsors for the
specific purpose of creating and redeeming their own issued
securities.\161\ In this respect, this commenter believes that ETF
Portals are similar to a system that allows issuers to sell their own
securities to investors.\162\ Another commenter similarly agrees that
ETF Portals should not be included in the definition of an ``exchange''
and does not believe there would be any public benefit to treating such
portals as exchanges and requiring ATS registration.\163\
---------------------------------------------------------------------------
\159\ See SIFMA AMG Letter at 8; ICI Letter at 13. The
commenters state that they do not believe that the Commission
intended to classify ETF Portals as exchanges under Rule 3b-16, as
proposed to be amended. See id.
\160\ See id.
\161\ See ICI Letter at 14. This commenter also states that an
ETF Portal's activities are limited in the following respects: ``(1)
the scope of ETFs involved in the creation or redemption process is
confined to those offered by the ETF sponsor; (2) only registered
broker-dealers that have an established agreement with an ETF
sponsor's ETF to act as an AP can submit creation or redemption
requests to the ETF; and (3) the system or portal does not directly
facilitate secondary market activity in the ETF (i.e., trading of
the actual ETF shares among individual investors), nor does it
provide access for individual investors that are not registered
broker-dealers.'' Id. at 13.
\162\ See id. at 14. This commenter further states that applying
the Regulation ATS and broker-dealer regulatory frameworks to ETF
Portals would impose unnecessary additional costs and burdens to the
ETF creation and redemption process, lead to unintended
consequences, and would not further the Commission's regulatory
objectives. See id. at 4.
\163\ See SIFMA AMG Letter at 8.
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Request for Comment
27. Should the Commission adopt Rule 3b-16(b)(3), as proposed to be
amended? Why or why not? Should the Commission adopt the proposed Rule
3b-16(b)(3) exclusion but with certain revisions? If so, please
identify those revisions and explain. For example, should the
Commission adopt, as suggested by one commenter, the proposed issuer
exclusion with revisions to state that it applies to a system that
``allows one or more issuers to sell their securities to investors,
either directly or through placement agents or underwriters''? In
particular, should the Commission add ``one or more issuers'' to the
proposed issuer exclusion? What types of systems would be covered under
the revised issuer exclusion example above? Please explain. Is the
inclusion of ``either directly or through placement agents or
underwriters'' in the revised issuer exclusion example above necessary
or appropriate to clarify its application? If so, why?
28. How do ETF Portals operate for the creation and redemption of
securities? Who are the participants in ETF Portals and how do they
interact? Are there any trading activities conducted as part of the
creation and redemption process through an ETF Portal that are exchange
activities or necessitate further clarification by the Commission as to
whether such activities are exchange activities? Do an ETF Portal's
activities facilitate secondary market activity in the ETF? Why or why
not? Does trading in ETF Portals involve multiple buyers and sellers of
securities? Why or why not? What non-discretionary methods are
generally used by ETF Portals?
29. Do ETF Portals fall within the criteria of existing Exchange
Act Rule 3b-16(a) or Rule 3b-16(a), as proposed to be amended? Why or
why not? If the activities conducted through ETF Portals fall within
the criteria of existing Exchange Act Rule 3b-16(a) or Rule 3b-16(a),
as proposed to be amended, should the Commission adopt an exclusion
under Exchange Act Rule 3b-16(b)(3) for ETF Portals? If yes, please
explain why and explain what the exclusion should apply to. How should
an ETF Portal be defined for purposes of the exclusion? For example,
should the Commission expressly adopt an exclusion that applies only to
ETF Portals that fall within this definition: ``a system that allows
one or more issuers from the same sponsoring entity to solicit creation
or redemption requests for their own securities submitted by authorized
participants for those securities''? Should the Commission adopt an
exclusion that applies only to platforms that solely support primary
market transactions in investment company securities, where the issuer
of the security participates in each transaction either as the sole
buyer, or as the sole seller? If so, should the exclusion be available
only for securities issued by ETFs or also for securities issued by
other investment companies? Should the exclusion specify that it is
available only for transactions that take place at a price based on the
current net asset value of the security, as required by 17 CFR 270.22c-
1 (Rule 22c-1 under the Investment Company Act of 1940)? What ETF
Portals should not be excluded from Exchange Act Rule 3b-16(a)? Please
explain.
[[Page 29464]]
E. Compliance Date for Implementation of Proposed Amendments to Rule
3b-16
Exchange Act Rule 3b-16, as proposed to be amended, would require,
if adopted, New Rule 3b-16(a) Systems to comply with federal securities
laws applicable to national securities exchanges and ATSs. These
systems may trade securities that are crypto asset securities, or
specific types of securities, including NMS stock, over-the-counter
(``OTC'') equity securities, corporate bonds, municipal securities,
government securities, foreign sovereign debt, asset-backed securities,
restricted securities, or options. New Rule 3b-16(a) Systems provide
access to numerous and diverse market participants (e.g., retail
investors, institutional investors, broker-dealers, issuers) seeking to
perform different trading strategies and investment objectives in
various types of securities. To facilitate these market participants'
trading strategies and investment objectives, providers of these
trading systems employ assorted technology and protocols (e.g.,
internet, DLT, cloud) and apply a variety of methods to bring together
buyers and sellers in securities (e.g., RFQ, indication of interest,
negotiation, conditional orders, bid wanted in competition, streaming
axes).
Several commenters express concern that New Rule 3b-16(a) Systems
would not be provided enough time to comply with their new regulatory
obligations.\164\ As stated in the Proposing Release, the Commission
expects that many New Rule 3b-16(a) Systems would elect to register as
broker-dealers and comply with Regulation ATS; \165\ however, they can
also elect to register as exchanges.\166\ The Commission recognizes
that New Rule 3b-16(a) Systems are operating today and would seek to
comply with the Proposed Rules without disrupting their current
business and their participants. To facilitate the trading system
operators' compliance with the Proposed Rules, the Commission is
soliciting further public comment on any compliance dates for the
Proposed Rules.
---------------------------------------------------------------------------
\164\ See, e.g., MarketAxess Letter at 5; Letter from Teana
Baker-Taylor, Chief Policy Officer, Chamber of Digital Commerce,
dated Mar. 24, 2022 (``Chamber Letter'') at 5; Letter from Elisa
Hirschmann, Executive Director, Chief Compliance Officer, BrokerTec
Americas LLC, CME Group, Inc., dated Apr. 18, 2022 at 4; Bloomberg
Letter I at 4-5; Letter from Scot J. Halvorsen, Associate General
Counsel, Cboe Global Markets, Inc., dated Apr. 18, 2022 (``Cboe
Letter'') at 2; Crypto Council Letter at 7.
\165\ See Proposing Release at 15502.
\166\ See id. at 15617-18.
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Request for Comment
30. Should the Commission adopt a compliance date to delay
implementation for New Rule 3b-16(a) Systems? Why or why not? Should
the Commission adopt the same compliance date for all New Rule 3b-16(a)
Systems or different compliance dates depending on certain factors,
such as the type of securities the system trades? Please explain. For
example, should the Commission adopt separate compliance dates to
implement the proposed amendments to Exchange Act Rule 3b-16 for
trading systems that trade one or more of the following: NMS stock, OTC
equity securities, corporate bonds, municipal securities, government
securities, foreign sovereign debt, asset-backed securities, restricted
securities, or options? Please explain.
31. As indicated above, crypto assets generally use DLT as a method
to record ownership and transfers, and a crypto asset that is a
security is not a separate type or category of security for purposes of
federal securities laws based solely on the use of DLT.\167\ Should the
Commission adopt a separate compliance date for New Rule 3b-16(a)
Systems that trade crypto asset securities? \168\ Please explain. If
the Commission adopts a different compliance date for New Rule 3b-16(a)
Systems that trade crypto asset securities, for purposes of ascribing
such compliance date, should ``crypto asset securities'' be defined to
mean securities that are also issued and/or transferred using
distributed ledger or blockchain technology, including, but not limited
to, so-called ``virtual currencies,'' ``coins,'' and ``tokens,'' to the
extent they rely on cryptographic protocols? \169\ Please explain.
---------------------------------------------------------------------------
\167\ See supra note 27 and accompanying text.
\168\ Such a delayed compliance date for New Rule 3b-16(a)
Systems would not impact the obligation of systems that meet the
existing criteria of Rule 3b-16 to comply with existing rules.
\169\ In the past, the Commission used this definition for
``digital asset securities'' in the Commission Statement on Custody
of Digital Asset Securities by Special Purpose Broker-Dealers. See
supra note 26.
---------------------------------------------------------------------------
32. Should the Commission adopt a uniform compliance period for all
categories of securities that is one year? Or would a shorter or longer
time period than one year be sufficient or necessary? If commenters
believe the Commission should adopt different compliance dates for
trading systems that trade a category of security, what compliance date
should the Commission adopt for such trading systems? Please explain.
33. Should the Commission adopt different compliance dates for New
Rule 3b-16(a) Systems based on the types of participants that trade on
the system? For example, should the Commission adopt a delayed
compliance date for trading systems that have predominately retail,
institutional, or broker-dealer participants? Please explain. What
compliance date should the Commission adopt for these types of trading
systems? Please explain.
34. Should the Commission adopt different compliance dates for New
Rule 3b-16(a) Systems based on the different means by which
participants enter trading interest into the system? For example,
should the Commission adopt a delayed compliance date for trading
systems that perform intermediary services, such as entering trading
interest into the trading system on behalf of users or offering users
services other than trading? Should the Commission adopt a delayed
compliance date for trading systems that allow buyers and sellers to
enter trading interest into the system directly without an
intermediary? Please explain. What compliance date should the
Commission adopt for these types of trading systems? Please explain.
35. Should the Commission adopt different compliance dates for New
Rule 3b-16(a) Systems based on different trading protocols that bring
together buyers and sellers to negotiate a trade? For example, should
the Commission adopt different compliance dates for trading systems
that provide RFQs, indications of interest, bids wanted in competition,
or streaming axes? Should the Commission adopt a delayed compliance
date for trading systems that use AMMs for buyers and sellers to enter
trading interest into the system and negotiate a trade? What compliance
date should the Commission adopt for these types of trading systems?
Please explain.
36. Should the Commission adopt different compliance dates for New
Rule 3b-16(a) Systems based on the technology supporting its exchange
activity (e.g., internet, DLT, cloud)? For example, should the
Commission adopt a delayed compliance date for trading systems that use
DLT to bring together buyers and sellers using trading interest and
establish protocols that allow participants to negotiate a trade?
Please explain. What compliance date should the Commission adopt for
these types of trading systems? Please explain.
37. Should the Commission adopt different compliance dates for New
Rule 3b-16(a) Systems based on the volume that trading systems
transact? For example, should the Commission adopt a delayed compliance
date for a trading system that transacts a certain level of dollar
volume or share volume, and if
[[Page 29465]]
so, what should that volume be? Should the Commission adopt different
compliance dates for trading systems based on all of their transaction
volume or only transaction volume in a category of security or in a
crypto asset security? Please explain. What compliance date should the
Commission adopt for these types of trading systems? Please explain.
38. Should the Commission adopt different compliance dates for New
Rule 3b-16(a) Systems based on a combination of factors described above
or any other factors? Please explain.
IV. Paperwork Reduction Act
In the analysis of the proposed rule amendments under the Paperwork
Reduction Act of 1995 (``PRA'') of the Proposing Release, the
Commission estimated 22 Communication Protocol Systems \170\ would be
impacted by the Proposed Rules. This estimate included systems that
offer trading of OTC equity securities and restricted securities, some
of which trade crypto asset securities.
---------------------------------------------------------------------------
\170\ The Proposing Release referred to systems that would newly
meet the definition of ``exchange'' under the Proposed Rules as
``Communication Protocol Systems.'' See Proposing Release at 15496
n.5. See also id. at 15586 (estimating the total number of
Communication Protocol Systems to be 22).
---------------------------------------------------------------------------
The Commission is revising the estimated number of trading systems
that would be impacted by the proposed amendments to Exchange Act Rule
3b-16 to include: (1) New Rule 3b-16(a) Systems that trade crypto asset
securities and were not included in the estimates in the Proposing
Release, and (2) New Rule 3b-16(a) Systems for non-crypto asset
securities that have exited, entered, or intend to enter, the market
since the Commission issued the Proposing Release. The Commission is
not revising its estimate of the per-respondent burdens that would be
imposed by the proposed amendments to Rule 3b-16(a). The summary of the
``collection of information'' requirements within the meaning of the
PRA and the proposed use of such information described in the Proposing
Release are unchanged.
A. Respondents
As discussed in the Proposing Release,\171\ the Commission believes
that New Rule 3b-16(a) Systems would likely choose to register as a
broker-dealer and comply with the conditions of Regulation ATS rather
than register as a national securities exchange because of the lighter
regulatory requirements imposed on ATSs, as compared to registered
exchanges.\172\ For purposes of this PRA analysis, New Rule 3b-16(a)
Systems that would comply with Regulation ATS are referred to as
``Newly Designated ATSs.'' \173\ In the Proposing Release, the
Commission estimated the total number of Newly Designated ATSs, across
all asset classes, to be 22.\174\ Since issuing the Proposing Release,
the Commission has learned, based on public sources of information, of
several trading systems that appear to offer the use of non-firm
trading interest, provide non-discretionary protocols, trade crypto
asset securities, and were not included within the Commission's initial
estimate of the number of respondents. Based on publicly-available
information, these trading systems may meet the criteria of Exchange
Act Rule 3b-16(a) as proposed to be amended and therefore, this PRA
analysis includes estimates of the burdens that these systems would
incur under the Proposed Rules. Many of the entities operating such
trading systems, however, depending on their activities and other facts
and circumstances, may be subject to existing federal securities laws
and registration requirements, including the requirement to register as
an exchange under existing criteria of Rule 3b-16(a) or the requirement
to register as a broker-dealer. In this regard, the Commission
recognizes that it may be over-estimating the number of respondents
that may be subject to the Proposed Rules. Specifically, the Commission
is revising the estimated total number of Newly Designated ATSs from
the 22 estimated systems in the Proposing Release to a total of 35-46
estimated Newly Designated ATSs,\175\ which would include: (1) an
additional 15-20 New Rule 3b-16(a) Systems that trade crypto asset
securities,\176\ and (2) 20-26 Newly Designated ATSs (revised from the
22 Newly Designated ATSs estimated in the Proposing Release),\177\
which has been revised to reflect New Rule 3b-16(a) Systems for non-
crypto asset securities that have exited, entered, or intend to enter,
the market since the Commission issued the Proposing Release. For the
purposes of this PRA analysis, the Commission is analyzing the burdens
for an estimated 46 Newly Designated ATSs, based on
[[Page 29466]]
the high end of these ranges.\178\ Some or all of this total number
will be subject to the following collections of information \179\ as
estimated below:\180\
---------------------------------------------------------------------------
\171\ See id. at section VII.
\172\ See id. at section II.D. As discussed above, today, the
Commission preliminarily believes that some amount of crypto asset
securities trade on New Rule 3b-16(a) Systems. See supra note 31.
These systems are not included as estimated respondents for the
purposes of the PRA analysis because they are already required to
comply with current applicable regulations; the proposed amendments
to Rule 3b-16 would not result in any new burden on these systems.
Rather, the PRA analysis includes the estimated number of
respondents for which a new burden would be imposed by the proposed
amendments to Rule 3b-16. Further, as discussed earlier in this
section, the Commission is not revising its estimate of the per-
respondent burdens that would be imposed by the proposed amendments
to Rule 3b-16. The increase in the estimate of total burdens across
all respondents is due solely to the Commission revising its
estimate of the number of respondents to include: (1) systems that
would meet the criteria of Rule 3b-16, as proposed to be amended,
and trade crypto asset securities; and (2) systems that would meet
the criteria of Rule 3b-16, as proposed to be amended, and trade
securities that are not crypto asset securities and have entered,
intend to enter, or exited the market since the Commission issued
the Proposing Release.
\173\ See supra note 170. The description of respondents and
burden estimates described in this Reopening Release for Newly
Designated ATSs supersedes and replaces corresponding respondent and
burden estimates for Communication Protocol Systems in the Proposing
Release.
\174\ See Proposing Release at section VII.C.
\175\ As discussed in the Proposing Release, some of the
estimates could change based on how the Newly Designated ATSs
structure their operations if subject to Regulation ATS. See id. at
15586 n.749. For example, the Commission is basing some of the below
estimates on the assumption that operators of Newly Designated ATSs
that are affiliated with existing broker-dealers would structure
their operations so that the existing broker-dealer would operate
the ATS to avoid the costs of new broker-dealer registration. In
addition, the Commission estimates that 2 Newly Designated ATSs that
trade municipal securities or corporate debt securities would meet
the volume thresholds to satisfy the conditions for complying with
ATS-specific systems capacity, integrity and security recordkeeping
as well as systems outages requirements. This number is based on
aggregate data reported by broker-dealers and could vary based on
how these systems structure their businesses.
\176\ The Commission received several comments stating that the
PRA analysis in the Proposing Release underestimated or did not
include systems that trade crypto asset securities. See, e.g.,
Bloomberg Letter II at 2-3; Coin Center Letter at 25; Coinbase
Letter at 6; Crypto Council Letter at 4-7. One commenter states that
the Commission did not include approximately 288 crypto
``exchanges,'' 200 crypto AMMs, and 9 front-end platforms that offer
liquidity aggregation and (smart) order routing functionality. See
Bloomberg Letter II at 2-3. It is not clear from the comment letter
whether these systems operate in the U.S., use non-firm trading
interest, and provide non-discretionary protocols to bring together
buyers and sellers to negotiate, and thus would be New Rule 3b-16(a)
Systems and subject to the new burdens analyzed under the PRA. In
addition, the Commission preliminarily believes that some amount of
crypto asset securities trade on New Rule 3b-16(a) Systems. See
supra note 31. These systems could be some or many of the systems
the commenter references. However, without additional information,
the Commission is unable to assess whether the systems referenced by
the commenter would meet existing Rule 3b-16(a), or Rule 3b-16(a),
as proposed to be revised. In addition, some commenters estimate
that hundreds or thousands of persons could be captured by the
proposed rule change. See supra note 60. See also SIFMA Letter II at
8-9 (stating that ``[t]he broad concept of communication protocol
systems could theoretically capture hundreds, if not thousands, of
systems across asset classes'' and there is a disconnect with the
Commission's estimate that 22 systems would be affected by the
Proposed Rules). As discussed above, systems would constitute a
single exchange and be responsible for compliance as a single
entity. See supra section II.B.
\177\ The original 22 Newly Designated ATSs the Commission
estimated in the Proposing Release may include ATSs that trade
crypto asset securities.
\178\ In the Proposing Release, the Commission certified that
the proposed amendments to Regulation ATS would not, if adopted,
have a significant economic impact on a substantial number of small
entities pursuant to section 3(a) of the Regulatory Flexibility Act
of 1980 (5 U.S.C. 603(a)). See Proposing Release at 15645. The
Commission did not receive any comment regarding its certification.
Although the Commission is now revising its estimate of the number
of respondents that would be subject to the proposed rules, the
Commission continues to certify that the proposed amendments would
not, if adopted, have a significant economic impact on a substantial
number of small entities. As in the Proposing Release, the
Commission encourages written comments regarding this certification.
\179\ The estimates presented here relate only to those
collections of information for which the burdens will change as a
result of increasing the estimated total number of Newly Designated
ATSs. For the complete estimated burden associated with the proposed
amendments, the estimates here for Newly Designated ATSs should be
considered together with those originally included in the Proposing
Release for Communication Protocol Systems, see Proposing Release at
section VII, with any burden identified by the identical combination
of Collection of Information and rule number replaced and superseded
by that contained here.
\180\ The estimated respondents for the Rule 304/Form ATS-N
collection of information is based on the assumption that systems
that operate multiple market places that are affiliated with a new
or existing broker-dealer will all be operated by such broker-
dealer, and that such systems will not register multiple broker-
dealers to operate multiple affiliated ATSs.
----------------------------------------------------------------------------------------------------------------
Number of
Collection of information Rule respondents Description
----------------------------------------------------------------------------------------------------------------
Rule 301 of Regulation ATS and 17 CFR 37 The Commission estimates that certain Newly
Forms ATS and ATS-R. 242.301(b)(2) Designated ATSs that trade securities
(``Rule other than NMS stocks or government
301(b)(2)''). securities or repos, including crypto
asset securities, would be required to
file the proposed modernized Form ATS.
Rule 301(b)(5).... 10 The Commission estimates that certain Newly
Designated ATSs would meet the volume
thresholds in government securities, NMS
stocks, corporate debt securities,
municipal securities, equity securities
that are not NMS stocks and for which
transactions are reported to an SRO and be
subject to the Fair Access Rule.
17 CFR 46 The Commission estimates that all Newly
242.301(b)(9) Designated ATSs will need to comply with
(``Rule the requirement to file quarterly reports
301(b)(9)''). on the proposed modernized Form ATS-R.
17 CFR 46 The Commission estimates that all Newly
242.301(b)(10) Designated ATSs will need to comply with
(``Rule the requirement to have written safeguards
301(b)(10)''). and written procedures to protect
subscribers' confidential trading
information.
Rule 302 of Regulation ATS..... 17 CFR 242.302 46 The Commission estimates that all Newly
(``Rule 302''). Designated ATSs will need to comply with
the recordkeeping requirements for ATSs.
Rule 303 of Regulation ATS..... 17 CFR 242.303 46 The Commission estimates that all Newly
(``Rule 303''). Designated ATSs will need to comply with
the record preservation requirements for
ATSs.
Rule 304 of Regulation ATS..... 17 CFR 242.304 9 The Commission estimates that certain
(``Rule 304''). Communication Protocol Systems that trade
NMS stocks or government securities or
repos would be required to file Form ATS-
N, as proposed to be revised.
Rule 15b1-1 and Form BD........ 17 CFR 240.15b1-1 27 The Commission estimates that certain Newly
(``Rule 15b1-1''). Designated ATSs are not currently
registered as or affiliated with a broker-
dealer and will need to register using
Form BD. This would include all Newly
Designated ATSs that trade crypto asset
securities that do not currently file a
Form ATS.
Form ID........................ 17 CFR 232.101 27 The Commission estimates that the same
(``Rule 101 of subset of Newly Designated ATSs that are
Regulation S-T''). not currently registered as or affiliated
with a broker-dealer will also need to
file Form ID to apply for EDGAR access.
----------------------------------------------------------------------------------------------------------------
B. Total PRA Burdens
The Commission continues to assume that, under the proposed
amendments, Newly Designated ATSs will choose to register as broker-
dealers and comply with the conditions of Regulation ATS, rather than
register as a national securities exchange,\181\ and the estimates
below reflect this assumption.
---------------------------------------------------------------------------
\181\ See Proposing Release at 15618 n.1056 and accompanying
text.
---------------------------------------------------------------------------
1. Burden of Rule 301 of Regulation ATS and Forms ATS and ATS-R
a. Rule 301(b)(2) Burden on Newly Designated ATSs
As discussed in the Proposing Release, the Commission estimates
that each Newly Designated ATS would incur an initial burden of 20.5
hours \182\ and an annual burden of 5 hours \183\ for complying with
Rule 301(b)(2). In light of the revision of the Commission's estimate
of Newly Designated ATSs, the Commission estimates the following total
initial and annual burdens:
---------------------------------------------------------------------------
\182\ The Commission's currently approved baseline for the
average initial compliance burden for each initial operation report
(``IOR'') on Form ATS is 20 hours (Attorney at 13 hours + Compliance
Clerk at 7 hours). See Extension Without Change of a Currently
Approved Collection: Regulation ATS Rule 301 Amendments; ICR
Reference No. 202101-3235-011; OMB Control No. 3235-0509 (June 9,
2018), available at https://www.reginfo.gov/public/do/PRAViewDocument?ref_nbr=202101-3235-011 (``Rule 301 PRA Supporting
Statement''). The Commission proposed amendments to Part I of Form
ATS, which would add an additional burden of 0.5 hours per filing
using the modernized form (Compliance Clerk at 0.5 hours), and
therefore the average compliance burden for each Form ATS filing
would be 20.5 hours. See Proposing Release at section V.B and
section VII.E (discussing proposed changes).
\183\ The Commission's currently approved baseline for the
average ongoing compliance burden for each amendment to a Form ATS
IOR is 4 hours ((Attorney at 1.5 hours + Compliance Clerk at 0.5
hours) x 2 IOR amendments a year). See Rule 301 PRA Supporting
Statement. The Commission proposed amendments to Part I of Form ATS,
including a requirement applicable to an ATS filing an IOR amendment
to attach as Exhibit 3 a marked document to indicate changes to
``yes'' or ``no'' answers and additions or deletions from any Item
in Part I, Part II, and Part III, which would add an additional
annual burden of 1 hour per ATS using the modernized form
(Compliance Clerk at 0.5 hours x 2 IOR amendments a year). Therefore
the average compliance burden for each Form ATS filing would be 5
hours. See Proposing Release at section V.B and section VII.E
(discussing proposed changes).
[[Page 29467]]
----------------------------------------------------------------------------------------------------------------
Total burden
(number of
Burden type Respondent type Number of Burden per respondents x
respondents respondent burden per
respondent)
----------------------------------------------------------------------------------------------------------------
Initial......................... Newly Designated 37 20.5 hours........ 758.5 hours.
ATSs.
Annual.......................... ................... ................. 5 hours........... 185 hours.
----------------------------------------------------------------------------------------------------------------
b. Rule 301(b)(5) Burden on Newly Designated ATSs
As discussed in the Proposing Release, the Commission estimates an
annual compliance burden of 37 hours per respondent for Rule
301(b)(5).\184\ In light of the revision of the Commission's estimate
of Newly Designated ATSs, the Commission estimates the following total
annual burdens:
---------------------------------------------------------------------------
\184\ The Commission's currently approved baseline for the
average compliance burden per respondent is 37 hours = 10 hours for
Fair Access standards recordkeeping (Attorney at 5 hours x 2
responses a year) + 27 hours for Fair Access notices (Attorney at 1
hour x 27 responses a year). See Proposing Release at section
VII.D.1.b.
----------------------------------------------------------------------------------------------------------------
Total annual burden
Number of Annual burden per (number of respondents x
Respondent type respondents respondent annual burden per
respondent)
----------------------------------------------------------------------------------------------------------------
Newly designated ATSs.................. 10 37 hours................. 370 hours.
----------------------------------------------------------------------------------------------------------------
c. Rule 301(b)(6) Burden on Newly Designated ATSs
The Commission estimates that none of the Newly Designated ATSs
trading crypto asset securities or that have entered or intend to enter
the market since the Commission issued the Proposing Release would meet
the applicable volume requirements and be subject to the requirements
of 17 CFR 242.301(b)(6) (``Rule 301(b)(6)''), and therefore, the
estimates in the Proposing Release remain unchanged.
d. Rule 301(b)(9) Burden on All Respondents
As discussed in the Proposing Release, the Commission estimates an
annual compliance burden of 19 hours per new Form ATS-R respondent
\185\ and 3 hours per existing Form ATS-R respondent.\186\ In light of
the revision of the Commission's estimate of Newly Designated ATSs, the
Commission estimates the following total annual burdens:
---------------------------------------------------------------------------
\185\ The annual burden per Newly Designated ATS would be 4.75
hours x 4 quarterly filings annually = 19 burden hours. See
Proposing Release at 15590 n.770.
\186\ The annual burden per existing Form ATS-R respondent would
be 0.75 hours x 4 quarterly filings annually = 3 burden hours. See
id. at 15590 n.771.
----------------------------------------------------------------------------------------------------------------
Total annual burden
Number of Annual burden per (number of respondents x
Respondent type respondents respondent annual burden per
respondent)
----------------------------------------------------------------------------------------------------------------
Newly Designated ATSs.................. 46 19 hours................. 874 hours.
----------------------------------------------------------------------------------------------------------------
e. Rule 301(b)(10) Burden on Newly Designated ATSs
As discussed in the Proposing Release, the Commission estimates an
initial burden of 8 hours \187\ and an annual burden of 4 hours \188\
per respondent for complying with Rule 301(b)(10). In light of the
revision of the Commission's estimate of Newly Designated ATSs, the
Commission estimates the following total initial and annual burdens:
---------------------------------------------------------------------------
\187\ The Commission's currently approved baseline for the
average initial compliance burden is 8 hours (Attorney at 7 hours +
Compliance Clerk at 1 hour). See Rule 301 PRA Supporting Statement.
\188\ The Commission's currently approved baseline for the
average ongoing compliance burden is 4 hours (Attorney at 2 hours +
Compliance Clerk at 2 hours). See id.
----------------------------------------------------------------------------------------------------------------
Total burden
(number of
Burden type Respondent type Number of Burden per respondents x
respondents respondent burden per
respondent)
----------------------------------------------------------------------------------------------------------------
Initial......................... Newly Designated 46 8 hours........... 368 hours.
ATSs.
Annual.......................... ................... ................. 4 hours........... 184 hours.
----------------------------------------------------------------------------------------------------------------
2. Burden of Rules 302 and 303 of Regulation ATS on Newly Designated
ATSs
---------------------------------------------------------------------------
\189\ The Commission's currently approved baseline for the
average compliance burden is 45 hours (Compliance Clerk at 45
hours). See Extension Without Change of a Currently Approved
Collection: Rule 302 (17 CFR 242.302) Recordkeeping Requirements for
Alternative Trading Systems; ICR Reference No. 201906-3235-011; OMB
Control No. 3235-0510 (Oct. 24, 2019), available at https://www.reginfo.gov/public/do/PRAViewDocument?ref_nbr=201906-3235-011.
There is no initial burden associated with this rule.
As discussed in the Proposing Release, the Commission estimates an
annual burden of 45 hours per respondent to comply with Rule 302 \189\
and 15 hours to comply with Rule 303.\190\ In light of the revision of
the Commission's estimate of Newly Designated ATSs, the Commission
estimates the following total annual burdens:
---------------------------------------------------------------------------
\190\ The Commission's currently approved baseline for the
average compliance burden is 15 hours (Compliance Clerk at 15
hours). See Extension Without Change of a Currently Approved
Collection: Rule 303 (17 CFR 242.303) Record Preservation
Requirements for Alternative Trading Systems; ICR Reference No.
202101-3235-010; OMB Control No. 3235-0505 (June 25, 2021),
available at https://www.reginfo.gov/public/do/PRAViewDocument?ref_nbr=202101-3235-010. There is no initial burden
associated with this rule.
[[Page 29468]]
----------------------------------------------------------------------------------------------------------------
Total annual
burden (number of
Rule Respondent type Number of Annual burden per respondents x
respondents respondent annual burden per
respondent)
----------------------------------------------------------------------------------------------------------------
Rule 302........................ Newly Designated 46 45 hours.......... 2,070 hours.
ATSs.
Rule 303........................ ................... ................. 15 hours.......... 690 hours.
----------------------------------------------------------------------------------------------------------------
3. Burden of Rule 304 of Regulation ATS and Form ATS-N on Newly
Designated ATSs
As discussed in the Proposing Release, the Commission estimates an
initial compliance burden of 136.4 hours per new Form ATS-N respondent
\191\ and an annual burden of 47 hours.\192\ In light of the revision
of the Commission's estimate of Newly Designated ATSs, the Commission
estimates the following total annual burdens:
---------------------------------------------------------------------------
\191\ The Commission's currently approved baseline for the
average initial compliance burden for each initial Form ATS-N is
130.4 hours (currently approved baseline burden to complete an
initial Form ATS at 20 hours: Attorney at 13 hours and Compliance
Clerk at 7 hours; see Proposing Release at 15588 n.759) + (Part I at
0.5 hour) + (Part II at an average of 29 hours) + (Part III at an
average of 78.75 hours) + (Access to EDGAR at 0.15 hours) + (Posting
link to published Form ATS-N on ATS website at 2 hours) = 130.4
burden hours. See Extension Without Change of a Currently Approved
Collection: Regulation ATS Rule 304 and Form ATS-N; ICR Reference
No. 202109-3235-014; OMB Control No. 3235-0763 (January 3, 2022),
available at https://www.reginfo.gov/public/do/PRAViewICR?ref_nbr=202109-3235-014 (``Rule 304 PRA Supporting
Statement''). The aggregate totals by professional, including the
baseline, are estimated to be approximately 54.6 hours for an
Attorney, 0.5 hours for a Chief Compliance Manager, 34.55 hours for
a Compliance Manager, 32.25 hours for a Senior Systems Analyst, 1
hour for a Senior Marketing Manager, and 7.5 hours for a Compliance
Clerk. The Commission estimates that the proposed amendments to Form
ATS-N would add an additional burden of 6 hours per filing (Attorney
at 2.5 hours, Compliance Manager at 1.5 hours, Senior Systems
Analyst at 1.5 hours, and Compliance Clerk at 0.5 hours), and
therefore the average compliance burden for each new Form ATS-N
filer would be 136.4 hours. See Proposing Release at section V.B and
section VII.E (discussing proposed changes).
\192\ The currently approved baseline for filing amendments to
Form ATS-N is 47 hours ((Attorney at 5.5 hours + Compliance Manager
at 2 hours + Compliance Clerk at 1.9 hours) x 5 amendments a year).
See Rule 304 PRA Supporting Statement.
----------------------------------------------------------------------------------------------------------------
Total burden
(number of
respondents x
Number of Burden per burden per
Burden type Respondent type respondents respondent respondent,
(hours) rounded to
nearest 0.5
hours)
----------------------------------------------------------------------------------------------------------------
Initial............................. Newly Designated ATSs.. 9 136.4 1,227.5
Annual.............................. ....................... .............. 47 423
----------------------------------------------------------------------------------------------------------------
4. Burden of Rule 15b1-1 and Form BD on Newly Designated ATSs
As discussed in the Proposing Release, the Commission estimates an
initial burden of 2.75 hours \193\ and an annual burden of 1 hour \194\
per respondent for completing Form BD. In light of the revision of the
Commission's estimate of Newly Designated ATSs, the Commission
estimates the following total initial and annual burdens:
---------------------------------------------------------------------------
\193\ The Commission's currently approved baseline for the
average initial compliance burden for each Form BD is 2.75 hours
(Compliance Manager at 2.75 hours). 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'').
\194\ The Commission's currently approved baseline for the
average ongoing compliance burden for each respondent amending Form
BD is 0.95 hours (Compliance Manager at 0.33 hours x 2.87 amendments
per year). See Form BD PRA Supporting Statement.
----------------------------------------------------------------------------------------------------------------
Total burden
(number of
respondents x
Number of Burden per burden per
Burden type Respondent type respondents respondent respondent,
(hours) rounded to
nearest 0.5
hours)
----------------------------------------------------------------------------------------------------------------
Initial............................. Newly Designated ATSs.. 27 2.75 74
Annual.............................. ....................... .............. 0.95 25.5
----------------------------------------------------------------------------------------------------------------
[[Page 29469]]
5. Burden of Form ID on Newly Designated ATSs
As discussed in the Proposing Release, the Commission estimates,
with regards to Rule 101 of Regulation S-T, an initial burden of 0.15
hours \195\ and no annual burden per respondent for completing Form ID.
In light of the revision of the Commission's estimate of Newly
Designated ATSs, the Commission estimates the following total burdens:
---------------------------------------------------------------------------
\195\ See Revision of a Currently Approved Collection: Form ID--
EDGAR Password; ICR Reference No. 202104-3235-022; OMB Control No.
3235-0328 (Apr. 29, 2021), available at https://www.reginfo.gov/public/do/PRAViewDocument?ref_nbr=202104-3235-022.
----------------------------------------------------------------------------------------------------------------
Total initial
burden (number of
respondents x
Respondent type Number of Initial burden per initial burden per
respondents respondent (hours) respondent,
rounded to nearest
0.5 hours)
----------------------------------------------------------------------------------------------------------------
Newly Designated ATSs.................................. 27 0.15 4
----------------------------------------------------------------------------------------------------------------
6. Burden of Regulation SCI on Newly Designated ATSs
The Commission does not estimate any Newly Designated ATSs that
trade crypto asset securities or that have exited, entered, or intend
to enter the market since the Commission issued the Proposing Release
will be subject to Regulation SCI,\196\ and therefore, the estimates in
the Proposing Release remain unchanged.
---------------------------------------------------------------------------
\196\ ``Regulation SCI'' consists of 17 CFR 242.1000 through
242.1007.
---------------------------------------------------------------------------
C. Request for Comments
Pursuant to 44 U.S.C. 3506(c)(2)(B), the Commission solicits
comments to:
39. 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;
40. Evaluate the accuracy of the Commission's estimates of the
burden of the proposed collection of information;
41. Determine whether there are ways to enhance the quality,
utility, and clarity of the information to be collected;
42. Evaluate whether there are ways to minimize the burden of
collection of information on those who are to respond, including
through the use of automated collection techniques or other forms of
information technology; and
43. Evaluate whether the proposed amendments would have any effects
on any other collection of information not previously identified in
this section.
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 S7-02-22.
Requests for materials submitted to Office of Management and Budget
(``OMB'') by the Commission with regard to this collection of
information should be in writing, with reference to File Number S7-02-
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.
V. Economic Analysis
A. Introduction
The Commission received comments on the Proposing Release stating
that the Commission had not considered the economic effects of the
Proposed Rules on New Rule 3b-16(a) Systems that trade crypto asset
securities.\197\ In this section the Commission is supplementing the
economic analysis provided in the Proposing Release with additional
analysis that considers the impact of the Proposed Rules on New Rule
3b-16(a) Systems that trade crypto asset securities.\198\
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\197\ See GDCA Letter II at 4, 5, and 6; Crypto Council Letter
at 2, 3, 4, and 5; McHenry/Huizenga Letter at 2; LeXpunK Letter at
3; ADAM Letter II at 13 and 14; Chamber Letter at 4; Coinbase Letter
at 2 and 6; a16z Letter at 2, 3, 7, 20 and 21; Blockchain
Association Letter II at 1 and 7; DeFi Education Fund Letter at 3.
\198\ Exchange Act section 3(f) requires the Commission, when it
is engaged 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 will promote efficiency,
competition, and capital formation. See 15 U.S.C. 78c(f). In
addition, Exchange Act section 23(a)(2) requires the Commission,
when making rules pursuant to the Exchange Act, to consider among
other matters the impact that any such rule would have on
competition and not to adopt any rule that would impose a burden on
competition that is not necessary or appropriate in furtherance of
the purposes of the Exchange Act. See 15 U.S.C. 78w(a)(2).
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The Commission preliminarily believes that some amount of crypto
asset securities trade on New Rule 3b-16(a) Systems. These New Rule 3b-
16(a) Systems do not meet the current definition of an exchange and
thus are not subject to regulation either as a national securities
exchange or an ATS. By amending Exchange Act Rule 3b-16 to include New
Rule 3b-16(a) Systems within the definition of exchange, the Proposed
Rules would functionally apply Regulation ATS to an additional number
of entities not currently regulated by it. This would have a number of
benefits, including enhanced regulatory oversight and protection for
investors, a reduction in trading costs and improvement in execution
quality, and enhancement of price discovery and liquidity.
The Proposed Rules would also have costs for those entities subject
to new requirements, including compliance costs associated with filing
forms such as Form ATS-N or Form ATS, protecting confidential
information, keeping certain records, registering as a broker-dealer,
and complying with the Fair Access Rule and/or Regulation SCI if
applicable.
For purposes of measuring the effects of the proposed rule on
participants in crypto asset securities markets, this analysis assumes
that market participants are compliant with existing applicable
Commission and FINRA rules, including those requiring registration and
the rules and regulations applicable to such registered
[[Page 29470]]
entities. To the extent that some entities engaged in activities
involving crypto asset securities are not, but should be, FINRA or
Commission registered entities, they may incur additional costs to
comply with existing rules and registration obligations that are
distinct from the costs associated with the Proposed Rules and are not
discussed in this analysis. Similarly, any benefits from coming into
compliance with existing rules and registration obligations are also
not discussed in this analysis, and effects on efficiency, competition,
and capital formation may differ from the discussion in this analysis
to the extent impacted entities do not comply with existing applicable
Commission or FINRA rules. For such entities, we expect the benefits
and costs specifically associated with the Proposed Rules to be the
same as those described below as applicable.
B. Baseline
1. Current State of Crypto Asset Markets
The global market for crypto assets is valued by some estimates at
approximately $900 billion,\199\ as of December 2022. Volatility in the
price of crypto assets has caused this number to fluctuate considerably
over the past few years. For example, in July of 2020 the market was
estimated to be worth approximately $276 billion, but went on to reach
a peak value of approximately $3 trillion by November 2021.\200\ A
subset of these crypto assets are securities with associated activity
within the U.S.\201\
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\199\ See, e.g., Global Cryptocurrency Market Cap Charts,
CoinGecko, available at https://www.coingecko.com/en/global-charts
(last visited on Mar. 15, 2023).
\200\ Id.
\201\ The Commission is aware that some amount of activity in
the market for crypto assets discussed in this Reopening Release is
conducted outside the U.S. Due to unique challenges in analyzing the
crypto asset market, the Commission faces obstacles to obtaining
reliable, comprehensive, and comparable information to determine, in
this rulemaking, the extent of the activities taking place within
the U.S. For example, while the issuance of a crypto asset on a
blockchain can be detected by observers of the blockchain, the
national or international scope of the activities involving this
asset is not always readily apparent. Furthermore, many of the
platforms on which crypto assets are traded do not provide publicly
available information that could be used to inform the determination
about the scope of their operations. This is due, in part, to the
significant amount of trading in crypto asset securities that may be
occurring in non-compliance with the federal securities laws. See
also supra note 26 (discussing crypto assets that are securities).
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The Commission has limited information regarding crypto asset
securities.\202\ This limitation is, in part, due to the fact that only
a small portion of crypto asset security trading activity is occurring
within entities that are registered with the Commission and any of the
SROs, or operating pursuant to the Regulation ATS exemption.\203\ For
example, there are currently no special purpose broker-dealers
authorized to maintain custody of crypto asset securities.\204\ This
information limitation is also, in part, due to the significant trading
activity in crypto asset securities that may be occurring in non-
compliance with the federal securities laws.\205\
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\202\ See, e.g., FSOC Report, supra note 30 (``The crypto-asset
ecosystem is characterized by opacity that creates challenges for
the assessment of financial stability risks.''); Crypto-Assets
Treasury Report, supra note 75, at 12 (finding that data pertaining
to ``off-chain activity'' is limited and subject to voluntary
disclosure by trading platforms and protocols, with protocols either
not complying with or not subject to obligations ``to report
accurate trade information periodically to regulators or to ensure
the quality, consistency, and reliability of their public trade
data''); Fin. Stability Bd., Assessment of Risks to Financial
Stability from Crypto-assets 18-19 (Feb. 16, 2022) (``FSB Report''),
available at https://www.fsb.org/wp-content/uploads/P160222.pdf
(finding that the difficulty in aggregating and analyzing available
data in the crypto asset space ``limits the amount of insight that
can be gained with regard to the [crypto asset] market structure and
functioning,'' including who the market participants are and where
the market's holdings are concentrated, which, among other things,
limits regulators' ability to inform policy and supervision);
Raphael Auer et al., Banking in the Shadow of Bitcoin? The
Institutional Adoption of Cryptocurrencies 4, 9 (Bank for Int'l
Settlements, Working Paper No. 1013, May 2022), available at https://www.bis.org/publ/work1013.pdf (stating that data gaps, which can be
caused by limited disclosure requirements, risk undermining the
ability for holistic oversight and regulation of cryptocurrencies);
Int'l Monetary Fund, The Crypto Ecosystem and Financial Stability
Challenges, in Global Financial Stability Report 41, 47 (Oct. 2021),
available at https://www.imf.org/-/media/Files/Publications/GFSR/2021/October/English/ch2.ashx (finding that crypto asset service
providers provide limited, fragmented, and, in some cases,
unreliable data, as the information is provided voluntarily without
standardization and, in some cases, with an incentive to manipulate
the data provided).
\203\ For a description of the requirements of the Regulation
ATS exemption, see Proposing Release at section II.E.2.
\204\ For background on 17 CFR 240.15c3-3 (``Rule 15c3-3''), as
it relates to crypto asset securities, see U.S. Sec. & Exch. Comm'n,
Joint Staff Statement on Broker-Dealer Custody of Digital Asset
Securities (July 8, 2019) (``Joint Staff Statement on Broker-Dealer
Custody of Digital Asset Securities''), available at https://www.sec.gov/news/public-statement/joint-staff-statement-broker-dealer-custody-digital-asset-securities; Fin. Indus. Regul. Auth.,
SEC Staff No-Action Letter, ATS Role in the Settlement of Digital
Asset Security Trades (Sept. 25, 2020), available at https://www.sec.gov/divisions/marketreg/mr-noaction/2020/finra-ats-role-in-settlement-of-digital-asset-security-trades-09252020.pdf. 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. The Commission issued
a statement describing its position that, for a period of five
years, special purpose broker-dealers operating under the
circumstances set forth in the statement will not be subject to a
Commission enforcement action on the basis that the broker-dealer
deems itself to have obtained and maintained physical possession or
control of customer fully paid and excess margin crypto asset
securities for purposes of Rule 15c3-3(b)(1) under the Exchange Act.
See Commission Statement on Custody of Digital Asset Securities by
Special Purpose Broker-Dealers. To date, no such special purpose
broker-dealer registration applications have been granted by FINRA.
\205\ See also FSOC Report, supra note 30, at 5, 87, 94, 97
(emphasizing the importance of the existing financial regulatory
structure while stating that certain digital asset platforms may be
listing securities while not in compliance with exchange, broker-
dealer, or other registration requirements, which may impose
additional risk on banks and investors and result in ``serious
consumer and investor protection issues''); Crypto-Assets Treasury
Report, supra note 49, at 26, 29, 39, 40 (stating that issuers and
platforms in the digital asset ecosystem may be acting in non-
compliance with statutes and regulations governing traditional
capital markets, with market participants that actively dispute the
application of existing laws and regulations, creating risks to
investors from non-compliance with, in particular, extensive
disclosure requirements and market conduct standards); FSB Report,
supra note 202, at 4, 8, 18 (stating that some trading activity in
crypto assets may be failing to comply with applicable laws and
regulations, while failing to provide basic investor protections due
to their operation outside of or in non-compliance with regulatory
frameworks, thereby failing to provide the ``market integrity,
investor protection or transparency seen in appropriately regulated
and supervised financial markets'').
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Because of this limited information, and because, as the Commission
understands, the trading of crypto asset securities utilizes different
technology and methods of operation than is utilized in markets for
non-crypto asset securities, the Commission has a greater degree of
uncertainty in characterizing the baseline for the crypto asset market
than it does in characterizing the baseline for non-crypto asset
securities.
It is impossible to determine the true market turnover \206\ for
crypto assets, because, among other reasons, the crypto asset market
reportedly is characterized \207\ by rampant wash
[[Page 29471]]
trading.\208\ The Commission does possess data on reported trades from
many crypto asset platforms, but there is no reliable way to determine
whether trades reported are actually between two different market
participants or are the result of wash trading. Estimates of how much
of the total crypto asset market volume is attributable to wash trades
vary but range as high as 95%.\209\ The Commission believes that with
such pervasive wash trading, any reported volume figures are
significantly misleading.
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\206\ That is, the amount of crypto assets that actually change
hands between distinct market participants.
\207\ See, e.g., Lin William Cong, Xi Li, Ke Tang & Yang Yang,
Crypto Wash Trading (Nat'l Bureau of Econ. Rsch., Working Paper No.
30783, Dec. 2022), available at https://www.nber.org/papers/w30783,
Andrew Singer, Cleaning Up Crypto Exchange Wash Trading Will Take
Global Regulation, Cointelegraph (July 29, 2020), available at
https://cointelegraph.com/news/cleaning-up-crypto-exchange-wash-trading-will-take-global-regulation (according to Gerald Chee, head
of research at CoinMarketCap.com, ``there is no way to tell if an
exchange is inflating volume or not by merely looking at the volume
they report'' because ``[t]he only way to detect `wash trades' would
require access to `account-ID' data'' and ``only exchanges have
access to these [data]''); see also, e.g., Friedhelm Victor & Andrea
Marie Weintraud, Detecting and Quantifying Wash Trading on
Decentralized Cryptocurrency Exchanges (Working Paper, Feb. 13,
2021), available at https://arxiv.org/pdf/2102.07001.pdf.
\208\ The term wash trading refers to the practice of creating
misleading trade reports and delivering such reports to the public,
usually to deceive market participants into believing volume in a
particular instrument is higher than it actually is. This is often
arranged by trading against one's own limit orders, or buy swapping
the instrument back and forth with a collaborator.
\209\ See, e.g., Bitwise Asset Management, Presentation to the
Securities and Exchange Commission (Mar. 19, 2019), available at
https://www.sec.gov/comments/sr-nysearca-2019-01/srnysearca201901-5164833-183434.pdf (stating that only 4.5% of approximately $6
billion of reported trading in Bitcoin was real). See also Javier
Paz, More Than Half of All Bitcoin Trades are Fake, Forbes (Aug. 26,
2022), available at https://www.forbes.com/sites/javierpaz/2022/08/26/more-than-half-of-all-bitcoin-trades-are-fake/?sh=471e51be6681.
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Because such wash trading renders volume data unusable, the
Commission is also unable to determine the share of trading that takes
place on various types of platforms; or the amount of concentration in
volume among various exchanges, including whether a given exchange has
any legitimate volume at all.
It is likewise impractical to determine market turnover of crypto
assets using data on transfer of crypto assets between wallets that is
available via public blockchains. The Commission preliminarily believes
that a direct analysis of blockchain data would be unable to reliably
determine how many crypto assets are actually moving between different
entities. Among other complications, the Commission understands that it
is a common practice for a single entity participating in crypto asset
trading to control multiple wallets and to move funds between those
wallets. There may be no way of determining that movement between such
wallets represents the exchange of crypto assets between distinct
entities. Additionally, because transactions on the blockchain can be
costly and slow, the Commission understands crypto assets to sometimes
trade and settle off-chain, with only changes between public addresses
eventually appended to the blockchain. Thus, even if one could
determine changes in ownership from transfers on the blockchain, that
might not reflect all changes of ownership that occur on off-chain
platforms.
a. Platforms in the Market for Crypto Assets
The Commission is unable to reliably determine the amount of
trading in crypto assets that takes place through platforms, or to
quantify their share of the market for trading services in crypto
assets. This is due to the wash trading problem in the crypto asset
market discussed above.\210\ The Commission is also unable to reliably
determine the number of platforms operating in the crypto asset
market.\211\
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\210\ See supra section V.B.1. The difficulties in computing
volume is also due in part to the significant amount of trading in
crypto asset securities that may be occurring in non-compliance with
federal securities laws. See supra section V.B.1.
\211\ While the Commission is uncertain about the total number
of platforms, some existing estimates of this number are over 200
for certain kinds of platforms, and over 250 for other kinds of
platforms. See, e.g., Top Cryptocurrency Spot Exchanges,
CoinMarketCap, available at https://coinmarketcap.com/rankings/exchanges/, Top Cryptocurrency Decentralized Exchanges,
CoinMarketCap, available at https://coinmarketcap.com/rankings/exchanges/dex/; see also Bloomberg Letter II at 3; see supra section
V.B.1. discussing difficulties in determining the size and scope of
the crypto asset market generally, including issues related to
foreign activity and non-compliance. See infra section V.B.1.c
(where the Commission has provided a rough estimate of the number of
Communication Protocol Systems in the market for crypto asset
securities).
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Some platforms may operate through the use of smart contracts.\212\
A smart contract may be designed to accept and integrate changes to its
functionality, or it may be immutable.\213\ Different designs are used
to control changes to a smart contract's functionality, including
designs that enable only very specific entities to submit changes to
the smart contract, as well as designs where a number of market
participants receive tokens theoretically enabling them to vote on
whether a change proposed by a developer is integrated or not.\214\ The
Commission understands that these tokens, or other tokens, may also
entitle their holders to additional benefits, which may include a claim
on some portion of the transaction fees paid to the smart contract.
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\212\ See supra note 15. Smart contracts generally can be
appended to a blockchain capable of running such programs by anyone
with the ability to submit transactions to it. The Commission
understands that not all blockchains are initially designed with the
intention of enabling smart contract functionality.
\213\ By ``immutable,'' the Commission means that the smart
contract cannot be changed through the processes that are part of
the typical functioning of a blockchain. The miners or validators of
the blockchain, by deviating from such processes, can make
alterations to the blockchain that alter interactions with
``immutable'' smart contracts. See infra section V.C.2.c.i for
related discussion.
\214\ Such tokens are sometimes referred to as governance
tokens.
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i. Operations of Platforms
The Commission understands that some platforms for crypto assets
operate limit order books to facilitate trading among their customers.
Some operators of platforms also operate an affiliated so-called over-
the-counter system or an RFQ system.\215\ Colocation options are
possible at some platforms.\216\
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\215\ See Elias Ahonen, What Really Goes on at a Crypto OTC
Desk?, Cointelegraph (May 16, 2022), available at https://cointelegraph.com/magazine/explained-what-really-crypto-otc-desk/.
\216\ See Anna Baydakova, High-Frequency Trading is Newest
Battleground in Crypto Exchange Race, CoinDesk (July 8, 2019),
available at https://www.coindesk.com/markets/2019/07/08/high-frequency-trading-is-newest-battleground-in-crypto-exchange-race/.
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The Commission preliminarily believes that platforms can be a
source of pricing information for the crypto assets that trade on those
platforms. Pricing information from off-chain platforms is sometimes
supplied to blockchains to serve as a reference price for various
entities using smart contracts in their systems.\217\
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\217\ See, e.g., Andrei Anisimov & Luke Youngblood, Introducing
the Coinbase Price Oracle, Coinbase (Apr. 23, 2020), available at
https://www.coinbase.com/blog/introducing-the-coinbase-price-oracle.
See also infra section V.B.1.a for further discussion of using price
information from centralized platforms in DeFi settings.
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Some entities run limit order books on the blockchain, by utilizing
smart contracts that accept limit orders, display them, and match limit
orders with market orders. In a system using a limit order book where
all activity takes place on-chain, traders must pay for blockchain
transactions for each message they wish to send to the limit order
book, in addition to any fees the limit order book may charge. This can
increase the sources of transaction cost relative to a platform that
does not run its limit order book on-chain. Some entities with an on-
chain component to their system may run their limit order books in
whole or in part off-chain, with only final transactions being posted
to the blockchain. This may help both reduce total fees paid by users
and issues of latency in updating on-chain records.
An AMM is designed as an alternative to a limit order book.\218\ An
AMM typically offers liquidity by exchanging one crypto asset for
another,\219\ with the
[[Page 29472]]
exchange rate typically set according to a pre-specified formula. In
some cases, this formula is set only by a mathematical function of the
inventory the AMM possesses of each crypto asset in the pair,\220\
while in other cases the AMM may incorporate information from an off-
chain platform to help inform the exchange rate. The inventory that an
AMM uses to fill orders is typically supplied by market participants,
and the details of the smart contract may specify compensation for
supplying inventory (e.g., by dividing up transaction fees among the
inventory suppliers). In some cases, the AMM may permit the inventory
suppliers to restrict the use of their liquidity to pre-specified price
ranges.
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\218\ AMMs typically make use of smart contracts to enable their
functionality, and as a consequence may run on-chain to a
significant degree.
\219\ The inventory held by an AMM for providing liquidity is
typically called a pool. A single AMM protocol will typically have
many pools, one for each combination of crypto asset trades offered.
For example, for crypto assets A, B, and C, a single AMM protocol
might have a pool that offers to trade A for B and vice versa,
another pool that offers to trade B for C and vice versa, and a
third pool that offers to trade A for C and vice versa. Some AMMs
can have pools with more than two assets that permit trades in
combinations of the assets in the pool. For example, a pool might
contain A, B, and C, and permit trades such as exchanging A and B
for C.
\220\ In the case where the AMM offers pools with more than two
assets, the formula may be based on the amount of each asset held in
the pool.
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The Commission understands that while some platforms provide
markets that enable the trading of crypto assets for dollars or other
fiat currency, platforms for crypto assets typically offer markets in
trading pairs as well. This means that, for example, an order on a
limit order book may offer to buy or sell units of a base asset in
exchange for a quote asset with the price expressed in units of the
quote asset.\221\ In addition, some platforms focus on facilitating
trades where the transaction takes place entirely ``on-chain.'' In this
case, the platform is unable to facilitate crypto asset markets using
fiat currency. Instead, such systems can only facilitate trading in
crypto asset pairs.
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\221\ See supra section II.A for additional discussion of pairs
trading.
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The Commission understands that the majority of platforms typically
require crypto assets and fiat currency to be provided to the platform
in advance of any trading activity. This requirement can help ensure
the successful completion of trades.
A variety of market participants use platforms to trade crypto
assets. The Commission understands that retail investors are
significant users of platforms.\222\ The Commission also understands
that some platforms may also be used to fill the orders of
institutional investors, and may have market makers participating as
well.
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\222\ See, e.g., Michel Rauchs, Apolline Blandin, Kristina
Klein, Gina Pieters, Martino Recanatini & Bryan Zhang, 2nd Global
Cryptoasset Benchmarking Study (Dec. 2018), available at https://www.jbs.cam.ac.uk/wp-content/uploads/2020/08/2019-09-ccaf-2nd-global-cryptoasset-benchmarking.pdf, showing that globally, retail
investors are 70% of ``exchange-only'' crypto business users and 78%
of ``multi-segment'' crypto businesses. See also 2022 10-K, Coinbase
(Feb. 21, 2023), available at https://www.sec.gov/Archives/edgar/data/1679788/000167978823000031/coin-20221231.htm showing that for
one centralized platform, retail investors accounted for
approximately 20% of trading volume in 2022.
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The Commission understands that the speed of processing on some
platforms may be faster when compared to transfers on some blockchains
or systems that involve blockchain processing as part of
functionality,\223\ both of which are reliant on blockchain
transactions to function. The Commission understands that there is
often a queue of transactions waiting to be appended to a blockchain,
and transactions being sent to a trading platform running on that
blockchain may have to wait in that queue to be processed.
---------------------------------------------------------------------------
\223\ See infra section V.B.1.c.
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Trading using systems that involve sending information to a
blockchain \224\ as a means of interacting with the system may expose
the market participant to information leakage of a kind that is not
present on platforms or New Rule 3b-16(a) Systems that do not require
interacting through a blockchain. The Commission understands that
messages to be appended to a blockchain often end up in queue that is
publicly viewable, which then exposes the market participant to
information leakage.
---------------------------------------------------------------------------
\224\ For example, sending a transaction to an AMM running on-
chain.
---------------------------------------------------------------------------
Furthermore, when trading on a system that runs some of its
functionality on-chain, there is a risk of unexpected or undesired
execution results. Specifically, a market participant may send an order
to a blockchain intending to interact with the on-chain portion of the
system based on market conditions which will be altered by other
transactions that are already queued but not yet processed.\225\
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\225\ The Commission understands that some platforms which have
this risk permit transaction messages to set limits to help mitigate
the risk of unexpected execution results. Although the problem of
messages already en route or queued for processing causing
unexpected changes to a trading platform for other users is a
problem on off-chain platforms as well, the Commission understands
that the problem may be more severe on platforms which require
interaction through a blockchain because the longer processing times
can lead to larger queues.
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Some ATSs, which have an active Form ATS on file with the
Commission, specify in their Form ATS disclosures that they trade or
intend to trade crypto asset securities.
ii. Regulatory Baseline
The provider of a platform that meets the current criteria of Rule
3b-16 of the Exchange Act is required to register as a national
securities exchange or operate pursuant to the Regulation ATS
exemption, which involves registering as a broker-dealer and complying
with Regulation ATS.\226\ The regulatory requirements and the
associated compliance costs for platforms that trade crypto asset
securities vary according to whether they are regulated as a national
securities exchange or ATS.
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\226\ See supra section V.B.1.a.i, discussing ATSs that trade or
intend to trade crypto asset securities. There are no registered
national securities exchanges which trade crypto asset securities.
See supra section V.B.1.
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A platform that trades crypto asset securities could choose to
register as a national securities exchange pursuant to sections 5 and 6
of the Exchange Act.\227\ The compliance costs associated with being a
national securities exchange are generally significantly higher than
those of being an ATS. In contrast to an ATS, a national securities
exchange, as an SRO, incurs compliance costs associated with, among
other things, setting standards of conduct for its members,
administering examinations for compliance with these standards,
coordinating with other SROs with respect to the dissemination of
consolidated market data, and generally taking responsibility for
enforcing its own rules and the provisions of the Exchange Act and the
rules and regulations thereunder. Furthermore, under section 19(b) of
the Exchange Act, a national securities exchange incurs compliance
costs by filing any proposed changes to its rules with the Commission,
which the Commission has the authority to approve or disapprove.\228\
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\227\ Pursuant to section 6 of the Exchange Act, national
securities exchanges must establish rules that generally: (1) are
designed to prevent fraud and manipulation, promote just and
equitable principles of trade, and protect investors and the public
interest; (2) provide for the equitable allocation of reasonable
fees; (3) do not permit unfair discrimination; (4) do not impose any
unnecessary or inappropriate burden on competition; and (5) with
limited exceptions, allow any broker-dealer to become a member.
Section 6(b) of the Exchange Act requires, among other things, that
the national securities exchange be so organized and have the
capacity to carry out the purposes of the Exchange Act and to comply
and enforce compliance by its members, and persons associated with
its members, with the federal securities laws and the rules of the
exchange. See section 6(b) of the Exchange Act.
\228\ See generally section 19(b) of the Exchange Act.
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A platform that meets the current definition of an exchange and
operates pursuant to the ATS exemption must comply with Regulation ATS,
and
[[Page 29473]]
incurs costs related to compliance with these requirements. To operate
under the exemption, an ATS must register as a broker-dealer \229\ and
comply with the filing and conduct obligations associated with being a
registered broker-dealer, including membership in an SRO, such as
FINRA,\230\ and compliance with the SRO's rules.\231\ Upon becoming a
broker-dealer, the operator of an ATS is subject to certain broker-
dealer requirements with respect to maintaining net capital, reporting,
and recordkeeping.\232\ An ATS is subject to Commission examinations
and FINRA examinations and surveillance, trade reporting obligations,
and certain investor protection rules.\233\ An ATS is required to
establish adequate written safeguards and written procedures \234\ to
protect subscribers' confidential trading information.\235\
Furthermore, an ATS is subject to certain reporting and disclosure
requirements, as applicable. Under Rule 301(b)(2) of Regulation ATS, an
ATS that does not trade NMS stocks must file Form ATS.\236\ An ATS must
file quarterly Form ATS-R to report to the Commission, among other
things, trading volume, securities traded, and a list of subscribers
that were participants during the relevant quarter.\237\ An ATS is
subject to recordkeeping and record preservation requirements under
Rules 302 and 303 of Regulation ATS, respectively.
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\229\ The broker-dealer operator controls all aspects of the
operation of the ATS and is legally responsible for ensuring that
the ATS complies with applicable federal securities laws and the
rules and regulations thereunder, including Regulation ATS. See NMS
Stock ATS Adopting Release at text accompanying note 663.
\230\ See section 15(b)(8) of the Exchange Act.
\231\ See Regulation ATS Adopting Release, supra note 3, at
70903.
\232\ Registered broker-dealers would be subject to requirements
under certain Exchange Act rules, such as Rule 15c3-1, Rule 17a-1,
Rule 17a-3, Rule 17a-4, and Rule 17a-5.
\233\ Under the federal securities laws and FINRA rules,
registered broker-dealers (e.g., broker-dealer operators of ATSs)
are subject to, among other things: (1) various disclosure and
supervision obligations; (2) anti-money laundering obligations
(including suspicious activity reporting); (3) FINRA OTC trade
reporting requirements, including requirements to maintain
membership in, or maintain an effective clearing arrangement with a
participant of, a clearing agency registered under the Exchange Act;
and (4) Commission examinations and FINRA examinations and
surveillance of members and markets that its members operate.
\234\ These written safeguards and written procedures must
include, among other things: limiting access to the confidential
trading information of subscribers to those employees of the ATS who
are operating the system or responsible for its compliance with
these or any other applicable rules; and implementing standards
controlling employees of the ATS trading for their own accounts.
\235\ See 17 CFR 242.301(b)(10); NMS Stock ATS Adopting Release,
supra note 7, section VI.
\236\ Under Rule 304 of Regulation ATS, NMS Stock ATSs are
required to file public Form ATS-N (instead of filing Form ATS),
which is subject to a Commission review and effectiveness process.
\237\ See Rule 301(b)(9); Form ATS-R.
---------------------------------------------------------------------------
In addition, an ATS that trades in crypto asset securities that are
corporate debt securities, and meets certain volume thresholds, is
required to comply with the Fair Access Rule and Rule 301(b)(6) of
Regulation ATS. The requirements of Rule 301(b)(6) are similar to, but
with less benefits and with significantly less costs than, the
requirements of Regulation SCI.\238\ Such an ATS must be a member of
FINRA, and would accordingly be required to report to the Trade
Reporting and Compliance Engine (TRACE) transactions in corporate
bonds.\239\
---------------------------------------------------------------------------
\238\ The scope and requirements of Rule 301(b)(6) are narrower
than those of Regulation SCI. For example, Rule 301(b)(6) of
Regulation ATS applies to a narrower set of systems, as compared to
Regulation SCI. Rule 301(b)(6) of Regulation ATS applies only to
systems that support order entry, order routing, order execution,
transaction reporting, and trade comparison, which is narrower than
the definition of SCI system. Also, Rule 301(b)(6) does not require
ATSs to maintain a backup facility, whereas Regulation SCI includes
such a requirement.
\239\ See Proposing Release at 15604 n.871 and accompanying
text.
---------------------------------------------------------------------------
An ATS that trades crypto asset securities that are municipal
securities is similarly required to comply with the Fair Access Rule
and with Rule 301(b)(6) of Regulation ATS if it meets certain volume
thresholds. Additionally, the broker-dealer operator of such an ATS
must register with the Municipal Securities Rulemaking Board (MSRB) and
accordingly is required to report municipal bond trades to the MSRB's
Real-Time Transaction Reporting System (RTRS).\240\
---------------------------------------------------------------------------
\240\ See id. at 15608.
---------------------------------------------------------------------------
A platform that operates as an NMS Stock ATS and trades in crypto
asset securities that are NMS stocks is required to file public Form
ATS-N. Such an ATS must comply with the requirements of Regulation SCI
and the Fair Access Rule if it meets the corresponding volume
thresholds. Additionally, because trades in NMS stocks that are
transacted off-exchange must be reported to one of three FINRA Trade
Reporting Facilities, such an NMS Stock ATS would have the reporting
obligation in most cases where it handles the execution of the trade.
Such an ATS that receives or originates orders in Eligible Securities
\241\ is required to report any Reportable Event \242\ to the
Consolidated Audit Trail.
---------------------------------------------------------------------------
\241\ The CAT NMS Plan is a national market system plan approved
by the Commission pursuant to Section 11A of the Exchange Act and
the rules and regulations thereunder. See Securities Exchange Act
Release No. 79318 (Nov. 15, 2016), 81 FR 84696 (Nov. 23, 2016). The
CAT NMS Plan and subsequent amendments to the Plan are available at
https://catnmsplan.com/about-cat/cat-nms-plan. Section 1.1 of the
CAT NMS Plan defines Eligible Securities as ``(a) all NMS
Securities; and (b) all OTC Equity Securities,'' where OTC Equity
Securities are defined as any equity security, other than an NMS
Security, subject to prompt last sale reporting rules of a
registered national securities association and reported to one of
such association's equity trade reporting facilities.'' This
includes both OTC Equity Securities and transactions in Restricted
Equity Securities effected pursuant to Securities Act Rule 144A.
\242\ According to Section 1.1 of the CAT NMS Plan, ``Reportable
Event'' includes, but is not limited to, the original receipt or
origination, modification, cancellation, routing, execution (in
whole or in part) and allocation of an order, and receipt of a
routed order. See CAT NMS Plan, supra note 241.
---------------------------------------------------------------------------
A platform that is an ATS and trades in crypto asset equity
securities that are not NMS stocks is required to comply with
Regulation SCI and the Fair Access Rule if it meets certain volume
thresholds, be a member of FINRA, and comply with associated reporting
obligations.
AMMs \243\ that meet the definition of a dealer or government
securities dealer under sections 3(a)(5) and 3(a)(44) of the Exchange
Act are subject to the requirements applicable to dealers under federal
securities laws and FINRA rules.\244\ These AMMs would incur compliance
costs associated with broker-dealer requirements discussed in section
V.B.1.a.ii.
---------------------------------------------------------------------------
\243\ Some AMMs may operate as single dealer platforms. A single
dealer platform that meets the requirement of existing Exchange Act
Rule 3b-16(b)(2) and Rule 3b-16(b)(2) as proposed to be amended,
would be excluded from the Exchange Act Rule 3b-16(a) and thus not
fall within the definition of exchange. In addition, the proposed
amendments to Rule 3b-16 do not change the registration obligations
of a person that meets the definition of a dealer or government
securities dealer under sections 3(a)(5) and 3(a)(44) of the
Exchange Act.
\244\ The Commission encourages commenters to review the
Commission's proposal, ``Further Definition of ``As a Part of a
Regular Business'' in the Definition of Dealer and Government
Securities Dealer,'' Securities Exchange Act Release No. 94524 (Mar.
28, 2022), 87 FR 23054 (Apr. 18, 2022) to determine whether it might
affect their comments on this Reopening Release.
---------------------------------------------------------------------------
Regulated platforms do not offer trading in non-cash markets for
crypto assets in which one of the assets is a security and the other
one is not a security.\245\
---------------------------------------------------------------------------
\245\ There is a significant amount of trading in crypto asset
securities that may be occurring in non-compliance with federal
securities laws. See supra section V.B.1.
---------------------------------------------------------------------------
b. New Rule 3b-16(a) Systems in the Market for Crypto Assets Securities
The Commission understands that some amount of trading in crypto
asset securities is facilitated through New Rule 3b-16(a) Systems.\246\
The
[[Page 29474]]
Commission lacks information on the entities involved providing New
Rule 3b-16(a) Systems in the market for crypto asset securities, and
consequently, is uncertain as to the precise number of such entities.
Nevertheless, the Commission is providing a rough estimate that there
are 15-20 New Rule 3b-16(a) Systems trading crypto asset
securities.\247\ The Commission requests comment on the number of New
Rule 3b-16(a) Systems in the market for crypto asset securities. The
Commission lacks data on the share of trades in crypto asset securities
that are conducted in this way, and requests comment on this issue.
---------------------------------------------------------------------------
\246\ See supra section V.B.1. Additionally, one commenter
states that the proposed amendments to the definition of exchange,
specifically the phrasing ``to include systems that offer the use of
non-firm trading interest and communication protocols to bring
together buyers and sellers of securities,'' could be read to
encompass ``unhosted protocols,'' which the Commission understands
to refer to DeFi platforms. See Delphi Digital Letter at 11; see
also LeXpunK Letter at 3.
\247\ The Commission received comments stating that we had not
included an estimate of the number of crypto asset security market
participants that would be included in the amended definition of
exchange. See GDCA Letter II at 6, Delphi Digital Letter at 11,
McHenry/Huizenga Letter at 2.
---------------------------------------------------------------------------
The Commission is uncertain as to the range of specific
communication protocols used for trading crypto assets.\248\ The
Commission requests comment on the types of protocols used in trading
crypto assets.
---------------------------------------------------------------------------
\248\ In the Proposing Release, the Commission discussed common
kinds of protocols and their economic significance in their
respective markets, see, e.g., Proposing Release sections VIII.B.1,
VIII.B.2.b, VIII.B.3.b, VIII.B.4.b, VIII.B.5.d, VIII.B.6.b, and
VIII.B.7.
---------------------------------------------------------------------------
Some entities provide New Rule 3b-16(a) Systems that may run part
of the system on-chain (for example, by using smart contracts). A New
Rule 3b-16(a) System that utilizes such technology may possess some of
the same features as other systems using that technology described in
section V.B.1.a.
The Commission understands that when running a New Rule 3b-16(a)
System that involves on-chain technology, the actual negotiation
portion of the system (e.g. the RFQ functions) may be run ``off-
chain,'' that is, without using the blockchain for computation and
communication. Once negotiation is finished, the transaction may then
be completed using blockchain-based systems.
It is also possible that some New Rule 3b-16(a) Systems may be run
entirely on-chain. For example, there may be smart contracts that
enable the sending of RFQs, responses to the RFQ, and finalizing of
transactions all through communicating with a set of smart contracts by
sending messages to the blockchain.
The Commission preliminarily believes that New Rule 3b-16(a)
Systems with on-chain components to their system generally facilitate
trades that are not cash-based. That is, the trades exchange one crypto
asset security for another crypto asset. The Commission preliminarily
believes that it is possible that New Rule 3b-16(a) Systems that do not
use any on-chain elements in their systems may also facilitate trades
that are non-cash based.
New Rule 3b-16(a) Systems do not meet the current definition of
exchange under Rule 3b-16, and therefore are not currently required to
register as national securities exchanges or comply with Regulation
ATS.\249\
---------------------------------------------------------------------------
\249\ See supra section V.B.1.a.ii describing the rules of
Regulation ATS, as well as rules applicable to national securities
exchanges.
---------------------------------------------------------------------------
c. Other Methods of Trading in Crypto Assets
Market participants may transact in crypto assets via bilateral
voice trading or electronic chat messaging.\250\ The Commission
understands that such interactions may be with a market maker in crypto
assets, or with some other market participant. Such methods of trading
permit negotiation on price and size. The Commission lacks information
on current crypto asset market practice, and requests comment on this
issue.
---------------------------------------------------------------------------
\250\ See supra section V.B.1.
---------------------------------------------------------------------------
Bilateral voice trading may provide flexibility to traders and
reduce information leakage. For these reasons, the Commission
preliminarily believes it may be a useful method for trading crypto
assets in large blocks. The Commission requests comment on the role of
bilateral voice trading in the market for crypto assets.
d. Competition for Crypto Asset Trading Services
The various platforms available for trading crypto assets, as well
as New Rule 3b-16(a) Systems, compete to attract order flow. The
Commission preliminarily believes that market participants seeking
liquidity in crypto assets may prefer either one particular platform or
method of crypto asset trading or multiple platforms or methods. A
single order may be split and filled using the different methods. It is
also possible that some methods may be used more than others in certain
segments of market participants.
Because New Rule 3b-16(a) Systems are not currently subject to the
same regulation as organizations, associations, or groups of persons
that meet the existing definition of ``exchange'' under Rule 3b-16,
they often trade pairs, which can include a combination of securities
and non-securities. This may give New Rule 3b-16(a) Systems a
competitive advantage over platforms that currently meet regulatory
requirements for exchanges.
Some of the methods for trading crypto asset securities involve
platforms that are currently subject to regulation as an ATS or
national securities exchange.\251\ New Rule 3b-16(a) Systems, in
contrast, are not subject to such regulation. This may have an impact
on competition for order flow between these two groups of platforms.
For example, platforms that are ATSs or national securities exchanges
may offer the benefits of investor protections associated with these
regulations to customers in ways that New Rule 3b-16(a) Systems do not.
It is also the case that the compliance costs for such regulations may
burden current ATSs and national securities exchanges in a way that
disadvantages them in competing with New Rule 3b-16(a) Systems.
---------------------------------------------------------------------------
\251\ See supra section V.B.1.a discussing such platforms and
the regulations to which they are subjected. Also, see supra section
V.B.1.a.i, discussing ATSs that trade or intend to trade crypto
asset securities. Today, there are no registered national securities
exchanges that trade crypto asset securities. See supra section
V.B.1.
---------------------------------------------------------------------------
C. Economic Effects
The Commission discussed the economic effects of the Proposed Rules
on general activity involving securities in the Proposing Release. In
this section, the Commission discusses the economic effects of the
Proposed Rules on activity involving crypto asset securities.
The Commission is relying on the analysis in the Proposing Release
to form the basis for its discussion of the effects of the Proposed
Rules for systems trading crypto asset securities.\252\ This is because
the Commission believes that New Rule 3b-16(a) Systems that trade
crypto asset securities are broadly similar in their functions to
functions of other New Rule 3b-16(a) Systems. The following sections
include discussion of the extent to which we believe these effects may
deviate from those discussed in the Proposing Release for the market
for crypto asset securities. Throughout the discussion in this
Reopening Release, the Commission has a greater degree of uncertainty
in its analysis of the costs that the Proposed Rules would impose on
market participants for crypto asset securities than it did in its
discussion of costs for non-crypto asset securities. This is because
the Commission has less data
[[Page 29475]]
on the functioning of the market for crypto asset securities.\253\
---------------------------------------------------------------------------
\252\ See id.
\253\ See supra section V.B.1.
---------------------------------------------------------------------------
As discussed in the Proposing Release,\254\ a New Rule 3b-16(a)
System could choose to register as an exchange rather than choose to
comply with the Regulation ATS exemption. The Commission believes that
New Rule 3b-16(a) Systems that trade crypto asset securities would
likely elect to register as a broker-dealer and comply with Regulation
ATS because the regulatory costs associated with registering and
operating as an exchange would be higher than those associated with
registering as a broker-dealer and complying with Regulation ATS.\255\
---------------------------------------------------------------------------
\254\ See Proposing Release at 15618.
\255\ See id. at 15586.
---------------------------------------------------------------------------
One commenter agrees with the Commission that any entity captured
as a New Rule 3b-16(a) System ``would likely prefer to be regulated as
an ATS as opposed to an exchange.'' \256\
---------------------------------------------------------------------------
\256\ See LeXpunK Letter at 14.
---------------------------------------------------------------------------
1. Benefits
The Commission believes that the benefits detailed in the Proposing
Release \257\ would accrue in broadly the same manner to market
participants who trade in crypto asset securities as they would to
market participants who trade in the securities discussed in the
Proposing Release. This is because the Commission believes that New
Rule 3b-16(a) Systems that trade crypto asset securities are broadly
similar in their functions to functions of other New Rule 3b-16(a)
Systems. However, throughout the discussion in this Reopening Release,
the Commission has a greater degree of uncertainty in its analysis of
the benefits that the Proposed Rules would provide to market
participants in the market for crypto asset securities than it did in
its discussion of benefits for non-crypto asset securities. This is
because the Commission has less data on the functioning of the market
for crypto asset securities.\258\
---------------------------------------------------------------------------
\257\ See id. at 15618.
\258\ See supra section V.B.1.
---------------------------------------------------------------------------
Certain benefits discussed in the Proposing Release apply only to
certain asset classes: the Commission believes that if any current or
future crypto asset security falls into one of those classes, then
those benefits would likely apply to the participants in the market for
that crypto asset security as well.
a. Enhancement of Regulatory Oversight and Investor Protection
As discussed fully in the Proposing Release, the Proposed Rules
would enhance regulatory oversight and investor protection by extending
the requirements related, among other things, to broker-dealer
registration, transaction reporting, safeguarding subscribers'
confidential trading information, recordkeeping and reporting under
Regulation ATS, providing certain information on Form ATS-R to the
Commission, and filing public Form ATS-N, to New Rule 3b-16(a) Systems
trading in securities of the applicable asset classes.\259\ Of these
benefits, some are associated with rules that apply to all securities,
and the rest are associated with rules that apply only to securities of
specific asset classes. The Commission believes that benefits
associated with rules that apply to all securities would accrue to
market participants trading crypto asset securities in a manner similar
to the description in the Proposing Release, and to a similar extent.
The Commission additionally believes that benefits associated with
rules applying only to specific asset classes would accrue to market
participants trading crypto asset securities of the appropriate asset
type, again in a similar manner and to a similar extent as that
described in the Proposing Release.
---------------------------------------------------------------------------
\259\ See id. at 15618-19. See also supra note 181 and
accompanying text (explaining that the Commission continues to
assume that, under the Proposed Rules, Newly Designated ATSs will
choose to register as broker-dealers and comply with the conditions
of Regulation ATS, rather than register as national securities
exchanges, and therefore the costs analyzed here assume that such
systems will not register as national securities exchanges).
---------------------------------------------------------------------------
b. Reduction of Trading Costs and Improvements to Execution Quality
As discussed fully in the Proposing Release, the Proposed Rules
would help enhance operational transparency, reduce trading costs, and
improve execution quality for market participants by requiring public
disclosure of Form ATS-N and applying the Fair Access Rule to certain
ATSs.\260\ The Commission believes that benefits associated with these
rules would accrue to market participants trading crypto asset
securities of the appropriate asset class, in the same manner and to
the same extent discussed in the Proposing Release. However, because
some New Rule 3b-16(a) Systems involve systems which run with an on-
chain component,\261\ and therefore may operate using code that is, at
least in part, publicly viewable, it is possible that the benefit of
Form ATS-N disclosures may be reduced for such systems. However,
because this code is not disclosed in a standardized or human-readable
form, the Commission believes that this reduction of impact may not be
significant.
---------------------------------------------------------------------------
\260\ See id. at 15620-21.
\261\ For example, the system may be run in part by smart
contracts deployed on a blockchain. See supra section V.B.1.a for
additional discussion of such systems.
---------------------------------------------------------------------------
c. Enhancement of Price Discovery and Liquidity
As discussed fully in the Proposing Release, the Proposed Rules
would help enhance the price discovery process and liquidity in
securities markets by applying broker-dealer registration requirements
of Regulation ATS, Regulation SCI, and the Capacity, Integrity, and
Security Rule (i.e., Rule 301(b)(6) of Regulation ATS) to certain New
Rule 3b-16(a) Systems.\262\ The Commission believes that benefits
associated with these rules would accrue to market participants trading
crypto asset securities of the appropriate asset class, in the same
manner and to the same extent discussed in the Proposing Release.
---------------------------------------------------------------------------
\262\ See id. at 15621-22.
---------------------------------------------------------------------------
d. Electronic Filing Requirements
As discussed fully in the Proposing Release, the Proposed Rules
would benefit market participants by improving the usability,
accessibility, and reliability of the new disclosures, by requiring a
structured data language and a publicly accessible filing location for
the applicable required disclosures.\263\ Of these benefits, some are
associated with rules that apply to all securities, and the rest are
associated with rules that apply only to securities of specific asset
classes. The Commission believes that benefits associated with rules
that apply to all securities would accrue to market participants
trading crypto asset securities in a manner similar to the description
in the Proposing Release, and to a similar extent. The Commission
additionally believes that benefits associated with rules applying only
to specific asset classes would accrue to market participants trading
crypto asset securities of the appropriate asset class, again in the
same manner and to the same extent discussed in the Proposing Release.
---------------------------------------------------------------------------
\263\ See id. at 15623.
---------------------------------------------------------------------------
However, because some New Rule 3b-16(a) Systems involve systems
which run with an on-chain component,\264\ and therefore may operate
using code that is, at least in part, publicly viewable, it is possible
that the benefit
[[Page 29476]]
of Form ATS-N disclosures may be reduced for such systems. However,
because this code is not disclosed in a standardized or human-readable
form, the Commission believes that this reduction of impact may not be
significant.
---------------------------------------------------------------------------
\264\ For example, the system may be run in part by smart
contracts deployed on a blockchain. See supra section V.B.1.a for
additional discussion of such systems.
---------------------------------------------------------------------------
2. Costs
The Commission received comments on the Proposing Release stating
that the Commission had not considered the costs of the Proposed Rules
to New Rule 3b-16(a) Systems that trade crypto asset securities.\265\
In this section the Commission is supplementing the analysis of costs
provided in the Proposing Release with additional analysis that details
the extent and manner in which the costs discussed in the Proposing
Release would apply to New Rule 3b-16(a) Systems that trade crypto
asset securities.
---------------------------------------------------------------------------
\265\ See GDCA Letter II at 6; Crypto Council Letter at 4;
McHenry/Huizenga Letter at 2; Coinbase Letter at 2; a16z Letter at
7.
---------------------------------------------------------------------------
The Commission is relying on the analysis in the Proposing Release
to form the basis for its discussion of the costs of Proposed Rules for
systems trading crypto asset securities.\266\ This is because the
Commission believes that the functioning of New Rule 3b-16(a) Systems
that trade crypto asset securities are broadly similar to the
functioning of other New Rule 3b-16(a) Systems discussed in the
Proposing Release. The Commission preliminarily believes that in some
cases the costs of compliance may be higher for New Rule 3b-16(a)
Systems in the market for crypto asset securities than for other New
Rule 3b-16(a) Systems. This is because in some cases the market for
crypto asset securities utilizes different technology and methods of
operation \267\ than is utilized in markets for non-crypto asset
securities. In addition, throughout the discussion in this Reopening
Release, the Commission has a greater degree of uncertainty in its
analysis of the costs that the Proposed Rules would impose on market
participants than it did in its discussion of costs for non-crypto
asset securities. This is because the Commission has less data on the
functioning of the market for crypto asset securities.\268\
---------------------------------------------------------------------------
\266\ See id.
\267\ Such different technology may include, for example, smart
contracts.
\268\ See supra section V.B.1.
---------------------------------------------------------------------------
In addition, the Commission has received comments stating that
entities that trade crypto asset securities may incur different
compliance costs than entities that trade traditional securities. One
commenter states that the analysis provided in the Proposing Release
were based only on ``traditional broker-dealer business,'' adding that
they were not aware of any broker-dealers that had successfully
registered under the Commission's framework for registering ``digital-
asset-only broker-dealers.'' \269\ There are also costs that are unique
to New Rule 3b-16(a) Systems that trade crypto asset securities. These
costs are also the result of the use of different technology and
methods of operation in some instances. These costs are discussed in
the sections below as applicable. The Commission invites comment on the
costs of the Proposed Rules for market participants in the market for
crypto asset securities.
---------------------------------------------------------------------------
\269\ See ADAM Letter II at 14.
---------------------------------------------------------------------------
a. Compliance Costs
Table V.1 provides estimates for the aggregate compliance costs for
New Rule 3b-16(a) Systems that trade crypto asset securities. These
aggregate costs reflect an estimate of 20 additional affected New Rule
3b-16(a) Systems that were not included in the estimates provided in
the Proposing Release, which is the upper end of the Commission's
estimate of the number of affected systems. The Commission is uncertain
as to how precise these estimates are because we lack sufficient data
on crypto asset securities.\270\
---------------------------------------------------------------------------
\270\ See supra section V.B.1.
---------------------------------------------------------------------------
In both Table V.1 and the following subsections, the Commission is
relying on the analysis in the Proposing Release to form the basis for
its discussion of costs. The Commission preliminarily believes that
actual costs may be higher than these estimates and discussions
express, due to the type of technology and operations utilized in
trading crypto asset securities. Because it lacks certain data, the
Commission is unable to provide an estimate as to how much higher costs
may be, but preliminarily believes that these estimates and discussions
provide a useful lower bound.
Table V.1--Total Implementation Costs and Other Compliance Costs Affecting Entities That Trade Crypto Asset
Securities Not Included in the Proposing Release
----------------------------------------------------------------------------------------------------------------
Aggregate Aggregate
Rule Compliance action initial costs ongoing costs
----------------------------------------------------------------------------------------------------------------
Reg ATS, 301(b)(1)......................... Form BD filing..................... \a\ $18,000 \d\ $6,000
Form ID filing..................... \b\ 1,000 ..............
Other compliance costs (non-PRA \c\ 6,320,000 \e\ 1,154,000
based).
Reg ATS, 301(b)(2)......................... Form ATS filing.................... \f\ 128,000 \g\ 30,000
Reg ATS, 301(b)(9)......................... Form ATS-R filing.................. .............. \h\ 130,000
Reg ATS, 301(b)(10)........................ Written safeguards and procedures \i\ 64,000 \j\ 20,000
to protect subscribers'
confidential trading information.
Reg ATS, 302............................... Recordkeeping...................... .............. \k\ 68,000
Reg ATS, 303............................... Record preservation................ .............. \l\ 2,000
-------------------------------
Total.................................. ................................... 6,531,000 1,410,000
----------------------------------------------------------------------------------------------------------------
\a\ This cost figure is obtained by summing the initial implementation costs of Rule 301(b)(1)'s Form BD filing
requirement for 20 New Rule 3b-16(a) Systems that trade crypto asset securities not included in the Proposing
Release. See Proposing Release at Table VIII.8.
\b\ This cost figure is obtained by summing the initial implementation costs of Rule 301(b)(1)'s Form ID filing
requirement for 20 New Rule 3b-16(a) Systems that trade crypto asset securities not included in the Proposing
Release. See Proposing Release at Table VIII.8.
\c\ This cost figure is obtained by summing the other initial implementation costs (non-PRA based) associated
with Rule 301(b)(1) for 20 New Rule 3b-16(a) Systems that trade crypto asset securities not included in the
Proposing Release. See Proposing Release at Table VIII.8.
\d\ This cost figure is obtained by summing the ongoing implementation costs of Rule 301(b)(1)'s Form BD filing
requirement for 20 New Rule 3b-16(a) Systems that trade crypto asset securities not included in the Proposing
Release. See Proposing Release at Table VIII.8.
\e\ This cost figure is obtained by summing the other ongoing implementation costs (non-PRA based) for 20 New
Rule 3b-16(a) Systems that trade crypto asset securities not included in the Proposing Release. See Proposing
Release at Table VIII.8.
\f\ This cost figure is obtained by summing the initial implementation costs of Rule 301(b)(2)'s Form ATS filing
requirement for 20 New Rule 3b-16(a) Systems that trade crypto asset securities not included in the Proposing
Release. See Proposing Release at Table VIII.8.
[[Page 29477]]
\g\ This cost figure is obtained by summing the ongoing implementation costs of Rule 301(b)(2)'s Form ATS filing
requirement for 20 New Rule 3b-16(a) Systems that trade crypto asset securities not included in the Proposing
Release. See Proposing Release at Table VIII.8.
\h\ This cost figure is obtained by summing the ongoing implementation costs of Rule 301(b)(9)'s Form ATS-R
filing requirement for 20 New Rule 3b-16(a) Systems that trade crypto asset securities not included in the
Proposing Release. See Proposing Release at Table VIII.8.
\i\ This cost figure is obtained by summing the initial implementation costs of Rule 301(b)(10)'s requirement
for written safeguards and procedures to protect subscribers' confidential trading information, for 20 New
Rule 3b-16(a) Systems that trade crypto asset securities not included in the Proposing Release. See Proposing
Release at Table VIII.8.
\j\ This cost figure is obtained by summing the ongoing implementation costs of Rule 301(b)(10)'s requirement
for written safeguards and procedures to protect subscribers' confidential trading information, for 20 New
Rule 3b-16(a) Systems that trade crypto asset securities not included in the Proposing Release. See Proposing
Release at Table VIII.8.
\k\ This cost figure is obtained by summing the ongoing implementation costs of Rule 302's recordkeeping
requirement for 20 New Rule 3b-16(a) Systems that trade crypto asset securities not included in the Proposing
Release. See Proposing Release at Table VIII.8.
\l\ This cost figure is obtained by summing the ongoing implementation costs of Rule 303's record preservation
requirement for 20 New Rule 3b-16(a) Systems that trade crypto asset securities not included in the Proposing
Release. See Proposing Release at Table VIII.8.
Commenters express concern that the Proposed Rules would include
certain crypto asset security entities that the Commission had not
considered, which would increase costs beyond what was estimated in the
Proposing Release due to the increase in the number of affected
entities.\271\ The Commission is now including a rough estimate that
the Proposed Rules would include 15-20 New Rule 3b-16(a) Systems that
trade crypto securities that were not included in the Proposing
Release,\272\ along with the associated costs.
---------------------------------------------------------------------------
\271\ See DeFi Education Fund Letter at 9, 17; Crypto Council
Letter at 5; Blockchain Association Letter II at 7; LeXpunK Letter
at 11; Chamber Letter at 5.
\272\ See supra section V.B.1.c (discussing New Rule 3b-16(a)
Systems in the market for crypto asset securities, and the
Commission's uncertainty regarding this estimate).
---------------------------------------------------------------------------
One commenter expresses concern that ``persons who may merely write
open-source `communications protocol' code or publish information about
the contents of communications systems which they do not control''
would be included by the amended definition of exchange.\273\ Another
commenter expresses similar concerns that ``DeFi developers'' would be
included by the amended definition of exchange.\274\ Another commenter
expresses similar concerns that ``persons who `make available' AMMs or
interfaces for utilizing AMMs may now be required by the SEC to
register those AMMs as ATSs or securities exchanges.'' \275\ Another
commenter expresses concern that the definition of exchange, as
proposed to be amended, might ``capture developers working with all
manner of protocols, front end systems, and smart contracts.'' \276\
Two commenters include smart contract code developers and publishers,
blockchain miners and validators, providers of liquidity to AMMs,
website maintainers, and blockchain client software developers as
examples of persons they believe might be inadvertently captured by the
definition of exchange, as proposed to be amended.\277\ Another
commenter lists social networking websites, peer-to-peer messaging
applications, business communication platforms, financial information
systems, blockchain technology nodes, and smart contracting platforms
as examples of common retail communication platforms that might be
required to register as an exchange under the Proposed Rules, adding
that the proposal was likely to make ``everyone involved in any
securities-related communications an exchange or ATS.'' \278\ Another
commenter states that ``any broker-dealer or non-broker-dealer that has
systems related to trading or communicating trading interest in
securities'' might be included by the Proposed Rules.\279\ This
commenter also lists validators, developers of smart contracts, and
website operators as examples of entities that might be included by the
Proposed Rules.\280\ Another commenter states that the Proposed Rules
might cause ``developers of code and smart contracts related to a
Decentralized Protocol, or the maintainers of online websites that
merely enable access to a Decentralized Protocol'' to be captured by
the definition of exchange, as proposed to be amended.\281\
---------------------------------------------------------------------------
\273\ See Delphi Digital Letter at 6.
\274\ See DeFi Education Fund Letter at 3, 9.
\275\ See Letter from Murray B. Wells, Attorney/Partner, Wells
Associates, PLLC, dated Apr. 18, 2022 (``Wells Letter'') at 2.
\276\ See LeXpunK Letter at 13.
\277\ See Wells Letter at 2; LeXpunK Letter at 14.
\278\ See DARLA, GBC, and Global DCA Letter at 7.
\279\ See a16z Letter at 7.
\280\ See id. at 14.
\281\ See Blockchain Association Letter II at 6.
---------------------------------------------------------------------------
The Commission believes that the entities these commenters describe
would only be an exchange if they constitute, maintain, or provide a
market place or facility that meets the applicable criteria, and would
only incur compliance costs in connection with their activities that
constitute, maintain, or provide that market place or facility.
The Commission acknowledges that there may be circumstances in
which the miners or validators of a blockchain could incur costs under
the Proposed Rules, and the Commission solicits comment on any such
costs.\282\
---------------------------------------------------------------------------
\282\ See supra notes 75-80 and accompanying text, section II.B
(discussing groups of persons under the definition of exchange);
infra section V.C.2.c.i.
---------------------------------------------------------------------------
i. Implementation Costs
New Rule 3b-16(a) Systems that would be newly subject to the
requirements of Regulation ATS would incur implementation costs
associated with, among other things, written safeguards and procedures
to protect subscribers' confidential trading information,
recordkeeping, record preservation, and Form ATS-R.\283\ The Commission
estimates that there are 15-20 additional New Rule 3b-16(a) Systems not
included in the Proposing Release that trade crypto asset
securities.\284\
---------------------------------------------------------------------------
\283\ See id. at 15627.
\284\ See supra section V.B.1.c (discussing New Rule 3b-16(a)
Systems in the market for crypto asset securities, and the
Commission's uncertainty regarding this estimate).
---------------------------------------------------------------------------
Furthermore, New Rule 3b-16(a) Systems that trade NMS stocks would
incur higher implementation costs due to the heightened requirements of
filing Form ATS-N compared to New Rule 3b-16(a) Systems that would file
Form ATS.\285\ To the extent that any crypto asset securities are NMS
stocks, New Rule 3b-16(a) Systems that trade them would incur these
higher costs. The Commission estimates that no \286\ New Rule 3b-16(a)
Systems currently trade crypto asset securities that are NMS stocks.
---------------------------------------------------------------------------
\285\ See id.
\286\ The Commission is uncertain as to the accuracy of this
estimate because we lack sufficient data on the full set of
securities traded in crypto asset markets. See supra section V.B.1.
---------------------------------------------------------------------------
Current ATSs and New Rule 3b-16(a) Systems that trade neither NMS
stocks nor government securities would incur implementation costs
associated with re-filing or filing the modernized Form ATS.
Furthermore, all New Rule 3b-16(a) Systems would incur implementation
costs to file the revised electronic Form ATS-R. Current NMS Stock ATSs
would incur implementation costs associated with amending revised Form
ATS-N. The
[[Page 29478]]
Commission estimates that 15-20 \287\ New Rule 3b-16(a) Systems
currently trade crypto asset securities that are not NMS stocks that
were not included in the Proposing Release, and no \288\ New Rule 3b-
16(a) Systems currently trade crypto asset securities that are NMS
stocks. To the extent that a current ATS or New Rule 3b-16(a) System
trades in crypto asset securities generally or crypto asset NMS stock
specifically, associated costs described in the Proposing Release would
be a lower bound on costs incurred.\289\
---------------------------------------------------------------------------
\287\ See supra section V.B.1.c (discussing New Rule 3b-16(a)
Systems in the market for crypto asset securities, and the
Commission's uncertainty regarding this estimate).
\288\ The Commission is uncertain as to the accuracy of this
estimate because we lack sufficient data on the full set of
securities traded in crypto asset markets. See supra section V.B.1.
\289\ See id.; Table VIII.8.
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Significant NMS Stock ATSs and ATSs that trade corporate debt
securities, municipal securities, or equity securities that are not NMS
stocks are subject to the Fair Access Rule. The Commission estimates
that no \290\ New Rule 3b-16(a) Systems that trade crypto asset
corporate debt securities, municipal securities, NMS stocks, or equity
securities that are not NMS stocks would be subject to the Fair Access
Rule.
---------------------------------------------------------------------------
\290\ The Commission is uncertain as to the accuracy of this
estimate because we lack sufficient data on the full set of
securities traded in crypto asset markets. See supra section V.B.1.
---------------------------------------------------------------------------
Significant ATSs that trade corporate debt securities or municipal
securities are subject to Rule 301(b)(6). The Commission estimates that
no \291\ New Rule 3b-16(a) Systems currently trade corporate debt or
municipal securities that are crypto asset securities and would meet
the threshold of Rule 301(b)(6). To the extent that such an entity
exists, the Commission believes that the implementation costs per
entity presented in the Proposing Release would be a lower bound on
costs incurred.\292\
---------------------------------------------------------------------------
\291\ The Commission is uncertain as to the accuracy of this
estimate because we lack sufficient data on the full set of
securities traded in crypto asset markets. See supra section V.B.1.
\292\ See id.
---------------------------------------------------------------------------
In the Proposing Release, the Commission discussed estimates of
initial PRA burdens for new SCI entities and ongoing PRA burdens for
all SCI entities.\293\ To the extent that any significant New Rule 3b-
16(a) System trades in crypto asset securities that are (i) NMS stocks
or (ii) equity securities that are not NMS stocks, and would therefore
be subject to Regulation SCI, the Commission preliminarily believes
that the PRA burdens discussed in the Proposing Release would be a
lower bound on costs incurred. The Commission estimates that no \294\
New Rule 3b-16(a) Systems that trade crypto asset securities that are
NMS stocks or equity securities that are not NMS stocks would meet the
applicable thresholds to be subject to Regulation SCI.
---------------------------------------------------------------------------
\293\ See id.
\294\ The Commission is uncertain as to the accuracy of this
estimate because we lack sufficient data on the full set of
securities traded in crypto asset markets. See supra section V.B.1.
---------------------------------------------------------------------------
As discussed in the Proposing Release,\295\ the Commission believes
that the fixed implementation costs associated with Rule 301(b)(9) and
(10), Rule 302, and Rule 303 would represent a larger fraction of
revenue for a small (measured in trading volume) ATS relative to that
for a large ATS. To the extent that New Rule 3b-16(a) Systems trade
crypto asset securities, and are therefore subject to these costs, the
Commission expects the fixed costs to fall disproportionately on such
lower-volume New Rule 3b-16(a) Systems.
---------------------------------------------------------------------------
\295\ See Proposing Release at 15628.
---------------------------------------------------------------------------
As discussed in the Proposing Release,\296\ the Commission believes
that the fixed implementation costs of developing internal processes to
ensure correct and complete reporting on Form ATS-N would represent a
larger fraction of revenue for a small (measured in trading volume) ATS
relative to that for a large ATS. To the extent that New Rule 3b-16(a)
Systems trade crypto assets that are NMS stocks, and are therefore
subject to these costs, the Commission expects the fixed costs to fall
disproportionately on smaller such New Rule 3b-16(a) Systems. However,
as in the Proposing Release, the Commission expects that smaller New
Rule 3b-16(a) Systems that are not operated by multi-service broker-
dealer operators and that generally do not engage in other brokerage or
dealing activities in addition to their ATSs would likely incur lower
implementation costs, because certain sections of Form ATS-N, as
proposed to be amended, would not be applicable to these New Rule 3b-
16(a) Systems.
---------------------------------------------------------------------------
\296\ See id.
---------------------------------------------------------------------------
The Commission also believes that the implementation costs
associated with Rule 304 would vary across New Rule 3b-16(a) Systems
that are NMS Stock ATSs depending on the complexity of the ATS and the
services that it offers. As discussed in the Proposing Release, the
Commission believes that less complex ATSs and ATSs that offer fewer
services would incur lower implementation costs due to requiring fewer
burden hours to complete their Forms ATS-N.\297\ The Commission
estimates that no \298\ New Rule 3b-16(a) Systems currently trade
crypto assets that are NMS stocks. To the extent that any such New Rule
3b-16(a) System exists, the Commission believes that this would also be
the case for such systems.
---------------------------------------------------------------------------
\297\ See id. at 15628.
\298\ The Commission is uncertain as to the accuracy of this
estimate because we lack sufficient data on the full set of
securities traded in crypto asset markets. See supra section V.B.1.
---------------------------------------------------------------------------
ii. Costs Associated With Broker-Dealer Requirements
Under proposed Rule 301(b)(1), New Rule 3b-16(a) Systems that are
non-broker-dealers (i.e., non-broker-dealer-operated New Rule 3b-16(a)
Systems) and trade crypto assets securities would be subject to broker-
dealer registration requirements. Such an entity would incur costs
associated with broker-dealer registration, which include costs related
to registering with the Commission as broker-dealers, becoming members
of an SRO, maintaining broker-dealer registration and SRO membership,
and certain broker-dealer requirements with respect to maintaining net
capital, reporting, and recordkeeping. The Commission estimates that
roughly 15-20 \299\ such New Rule 3b-16(a) Systems that trade crypto
asset securities not included in the Proposing Release exist. The
Commission believes that the costs \300\ discussed in the Proposing
Release \301\ for such entities would be a lower bound on the costs
incurred.
---------------------------------------------------------------------------
\299\ See supra section V.B.1.c (discussing New Rule 3b-16(a)
Systems in the market for crypto asset securities, and the
Commission's uncertainty regarding this estimate).
\300\ As stated in the Proposing Release, the Commission lacks
information that would allow it to provide estimates on certain
restructuring related costs for a non-broker-dealer-operated
Communication Protocol System that trades crypto asset securities.
Likewise, the Commission is unable to estimate the costs of broker-
dealer requirements with respect to maintaining net capital,
reporting, and recordkeeping, as it lacks information on how
affected entities might change their current business structures
upon registering as a broker-dealer.
\301\ See Proposing Release at 15628-29.
---------------------------------------------------------------------------
Furthermore, under section 4(a)(4) of the Securities Act,\302\ a
broker-dealer is required to conduct a reasonable inquiry into the
facts surrounding the proposed sale of a security by its customer to
determine whether the sale of the security would violate section 5,
such as if there is no registration statement in effect with the
Commission as to the offer and sale of the security, or there is no
applicable exemption from the registration provisions available to the
customer. Upon registration as a broker-dealer, an entity could face
liability under section 5 of the Securities Act for
[[Page 29479]]
facilitating sales of securities on behalf of its customers that would
violate section 5. To the extent a substantial portion of this entity's
business is in the sales of such securities, the Proposed Rules would
result in a significant loss in revenue for the entity.
---------------------------------------------------------------------------
\302\ See 15 U.S.C. 77d(a)(4).
---------------------------------------------------------------------------
One commenter states that the Commission's estimates of compliance
costs, provided in the Proposing Release, omitted the costs of joining
FINRA, which is a requirement for becoming a registered broker-
dealer.\303\ The commenter characterizes these costs as representing
``the lion's share'' of the time and effort needed to become a broker-
dealer. The Commission did discuss these costs in the Proposing
Release,\304\ and believes that the estimates provided there provide a
useful characterization, notwithstanding the possibility that some
costs may be higher for entities that trade crypto asset
securities.\305\
---------------------------------------------------------------------------
\303\ See Crypto Council Letter at 6.
\304\ See Proposing Release at Table VIII.8 and note 1120.
\305\ See supra section V.C.2.a.
---------------------------------------------------------------------------
The Commission believes that a New Rule 3b-16(a) System not
operated by a broker-dealer would not incur compliance costs associated
with registering as a broker-dealer and becoming a member of an SRO
(e.g., FINRA) if it has a broker-dealer affiliate.\306\ The Commission
believes that this would also apply to a New Rule 3b-16(a) System that
trades crypto asset securities. A broker-dealer affiliate that is
adding ATS or New Rule 3b-16(a) System operations would incur
additional ongoing costs associated with maintaining FINRA membership
if adding trading operations increases revenue, the number of
registered persons or branch offices, trading volume, or expands the
scope of brokerage activities. Furthermore, a broker-dealer affiliate
that is adding ATS or New Rule 3b-16(a) System operations could incur
additional costs associated with maintaining adequate net capital
level, reporting, and recordkeeping depending on the changes in
business structure of the broker-dealer. As in the Proposing
Release,\307\ the Commission is unable to provide estimates on these
additional costs; however, the Commission estimates that there are no
\308\ New Rule 3b-16(a) Systems not operated by a broker-dealer that
are affiliated with an existing broker-dealer.
---------------------------------------------------------------------------
\306\ See Proposing Release at 15629.
\307\ See id. at 15629.
\308\ The Commission is uncertain as to the accuracy of this
estimate because we lack sufficient data on the full set of
securities traded in crypto asset markets. See supra section V.B.1.
---------------------------------------------------------------------------
iii. Costs Associated With the Ineffectiveness Declaration
In addition to the implementation costs associated with filing and
amending Form ATS-N, the Commission preliminarily believes that the
proposed ability for the Commission to declare an initial Form ATS-N or
Form ATS-N amendment ineffective could result in direct costs for New
Rule 3b-16(a) Systems that are NMS Stock ATSs.\309\ However, the
Commission estimates that no \310\ New Rule 3b-16(a) Systems currently
trade crypto asset securities that are NMS stocks. To the extent that
such a New Rule 3b-16(a) System exists, it would incur these costs.
However, the Commission believes that there would not be a substantial
burden imposed in connection with resubmitting an initial Form ATS-N or
a Form ATS-N amendment or from an ineffective declaration in
general.\311\ The costs of an ineffectiveness declaration would
encourage New Rule 3b-16(a) Systems trading in these crypto asset
securities to initially submit a more accurate and complete Form ATS-N
and amendments thereto, which would reduce the likelihood that they are
declared ineffective.\312\ Additionally, New Rule 3b-16(a) Systems that
trade NMS stocks, including those that are crypto asset securities,
would also be able to continue operations pending the Commission's
review of their initial Form ATS-N. However, if after notice and
opportunity for hearing, the Commission declares an initial Form ATS-N
filed by such a New Rule 3b-16(a) System ineffective, the ATS would be
required to cease operations until an initial Form ATS-N is effective.
---------------------------------------------------------------------------
\309\ See id.
\310\ The Commission is uncertain as to the accuracy of this
estimate because we lack sufficient data on the full set of
securities traded in crypto asset markets. See supra section V.B.1.
\311\ See Proposing Release at 15630 (citation omitted).
\312\ See id.
---------------------------------------------------------------------------
iv. Costs Associated With the Fair Access Rule
The Commission preliminarily believes that complying with the Fair
Access Rule could result in compliance costs (non-PRA based) for New
Rule 3b-16(a) Systems that trade NMS stocks (including NMS Stock ATSs
that would no longer be excluded from Fair Access compliance under Rule
301(b)(5)(iii) as proposed),\313\ equity securities that are not NMS
stocks, corporate debt securities, or municipal securities.\314\ If a
New Rule 3b-16(a) System must change fee structures, order interaction
procedures, trading protocols, or access provisions and adapt their
operating model due to the Fair Access Rule, it would incur costs
related to changing business operations.\315\ To the extent that a New
Rule 3b-16(a) System trades in crypto asset securities that fall into
any of the above-mentioned categories, the Commission believes that it
would incur costs related to these changes as described in the
Proposing Release. As in the Proposing Release, the Commission lacks
data that would be used to quantify the costs related to these changes.
The Commission estimates that no \316\ New Rule 3b-16(a) Systems
currently trade crypto asset securities that are NMS stocks, equities
that are not NMS Stocks, corporate debt, or municipal securities.
---------------------------------------------------------------------------
\313\ Today, based on public Form ATS-N filings, no NMS Stock
ATS operates pursuant to this exclusion.
\314\ See id.
\315\ See id.
\316\ The Commission is uncertain as to the accuracy of this
estimate because we lack sufficient data on the full set of
securities traded in crypto asset markets. See supra section V.B.1.
---------------------------------------------------------------------------
As discussed in the Proposing Release,\317\ the Proposed Rules
would aggregate volume across affiliated ATSs in calculating the fair
access volume thresholds. This would mean affiliate ATSs that otherwise
do not meet the relevant volume thresholds may be subject to the Fair
Access Rule. As discussed above, if ATSs must adapt their operating
models as a result of being subject to the Fair Access Rule, those ATSs
would incur costs related to changing business operations. The
Commission estimates that no current affiliate ATS that trades NMS
stocks, equity securities that are not NMS stocks, corporate debt
securities, or municipal securities, that are crypto asset securities,
and does not already currently meet the fair access volume thresholds
would meet the thresholds if volume is aggregated across affiliated
ATSs.
---------------------------------------------------------------------------
\317\ See Proposing Release at 15630-31.
---------------------------------------------------------------------------
v. Costs Associated With Rule 301(b)(6)
As discussed in the Proposing Release,\318\ in addition to the
implementation costs associated with reporting outages and
recordkeeping under the proposed Rule 301(b)(6), the Commission
preliminarily believes that significant New Rule 3b-16(a) Systems that
trade corporate debt securities or municipal securities could incur
compliance costs (non-PRA based) to ensure adequate capacity,
integrity, and security with respect to those systems
[[Page 29480]]
that support order entry, order routing, order execution, transaction
reporting, and trade comparison. To the extent that a New Rule 3b-16(a)
System trades in crypto assets that are corporate debt securities or
municipal securities, and does not currently meet the standards under
the proposed rule, they would incur compliance costs as described in
the Proposing Release. The Commission lacks information that would
enable it to reasonably estimate these costs, but believes that the
compliance costs associated with Rule 301(b)(6) would be significantly
less than those of Regulation SCI.\319\ Furthermore, the Commission
estimates that none \320\ of the New Rule 3b-16(a) Systems trading
crypto asset securities would meet the applicable volume requirements
and be subject to the requirements of Rule 301(b)(6).
---------------------------------------------------------------------------
\318\ See id. at 15631.
\319\ See id. at 15631 n.1138 and accompanying text.
\320\ The Commission is uncertain as to the accuracy of this
estimate because we lack sufficient data on the full set of
securities traded in crypto asset markets. See supra section V.B.1.
---------------------------------------------------------------------------
vi. Costs Associated With Regulation SCI
New Rule 3b-16(a) Systems that meet certain volume thresholds and
trade crypto asset securities that are (i) NMS stock or (ii) equity
securities that are not NMS stocks, would incur compliance costs (non-
PRA based costs) as SCI entities, including both initial and ongoing
costs. The Commission believes that, to the extent that there exist New
Rule 3b-16(a) Systems trading crypto asset securities that are equity
securities, including NMS stocks, the costs described in the Proposing
Release \321\ would be a lower bound on cost incurred. The Commission
estimates no \322\ New Rule 3b-16(a) Systems that trade crypto asset
securities would be subject to Regulation SCI.
---------------------------------------------------------------------------
\321\ See id.; section VIII.C.2.a.vi.
\322\ The Commission is uncertain as to the accuracy of this
estimate because we lack sufficient data on the full set of
securities traded in crypto asset markets. See supra section V.B.1.
See also Securities Exchange Act Release No. 97143 (Mar. 15, 2023),
available at https://www.sec.gov/rules/proposed/2023/34-97143.pdf.
The Commission encourages commenters to review that Regulation SCI
proposal to determine whether it might affect their comments on this
Reopening Release.
---------------------------------------------------------------------------
The Commission also believes that some New Rule 3b-16(a) Systems'
participants required to participate in the testing of business
continuity and disaster recovery plans would incur Regulation SCI-
related connectivity costs. The Commission believes that $10,000 apiece
would be a lower bound on such costs.\323\ However, because the
Commission estimates that no New Rule 3b-16(a) Systems that trade
crypto asset securities would be subject to Regulation SCI, no such
participants would incur these costs.
---------------------------------------------------------------------------
\323\ See id.
---------------------------------------------------------------------------
The Commission believes that the costs to comply with Regulation
SCI discussed above would also fall on third-party vendors employed by
New Rule 3b-16(a) Systems to provide services used in their SCI
systems.\324\ To the extent that a vendor provides services to an ATS
that trades crypto asset securities that are equity securities,
including NMS stocks, it would incur these costs. However, because the
Commission estimates that no New Rule 3b-16(a) Systems that trade
crypto asset securities would be subject to Regulation SCI, no such
vendors would incur these costs.
---------------------------------------------------------------------------
\324\ See id. at 15632.
---------------------------------------------------------------------------
b. Indirect Costs
The Commission believes that the Proposed Rules could result in
indirect costs for market participants and certain New Rule 3b-16(a)
Systems that trade crypto asset securities.\325\
---------------------------------------------------------------------------
\325\ See infra section V.C.3 for discussions about the economic
effects of the Proposed Rules specifically pertaining to
competition, efficiency, and capital formation.
---------------------------------------------------------------------------
i. General Indirect Costs
In the following discussion, the Commission is relying on the
analysis in the Proposing Release to form the basis for our discussion
of these costs. The Commission preliminarily believes that actual costs
may be higher than these discussions express, due to the technology and
operations utilized in trading crypto asset securities. The Commission
is unable to provide a discussion as to how much higher costs may be,
but preliminarily believes that the discussions below provide a useful
lower bound.
The public disclosure requirements of Form ATS-N under the proposal
could generate indirect costs for some subscribers by causing New Rule
3b-16(a) Systems that trade NMS stock to stop sharing information that
they might currently offer to only some subscribers.\326\ Form ATS-N
would require NMS Stock ATSs to publicly disclose any platform-wide
order execution metrics that they share with any subscriber. To avoid
publicly disclosing this information, an ATS might stop sharing the
information with subscribers. The trading costs of subscribers that
currently use this information to help make trading decisions would
likely increase if the information is no longer available to them. To
the extent that a subscriber trades using a New Rule 3b-16(a) System
that trades crypto assets that are NMS stocks and receives such
information, the subscriber would incur these indirect costs. As
discussed in the Proposing Release, the Commission anticipates that
this risk might be low due to commercial incentives that may induce
ATSs to continue disclosing this information.\327\
---------------------------------------------------------------------------
\326\ See id.
\327\ See id.
---------------------------------------------------------------------------
The Commission believes that the public disclosure of Form ATS-N
would generate indirect costs, in the form of transfers, for some
subscribers of New Rule 3b-16(a) Systems that trade NMS stock who might
currently have more information regarding some ATS features, such as
order priority and matching procedures, than other subscribers.\328\
The public disclosure of these features would reduce informed
subscribers' information advantage over other subscribers on such New
Rule 3b-16(a) Systems and increase their trading costs. In this regard,
the Commission recognizes that this effect would be a transfer to those
subscribers who would receive the proposed information, from those
subscribers who currently exclusively receive such information. To the
extent that a New Rule 3b-16(a) System trades in crypto asset
securities that are NMS stocks, such transfers might occur among their
subscribers.
---------------------------------------------------------------------------
\328\ See id.
---------------------------------------------------------------------------
Some New Rule 3b-16(a) Systems that trade NMS stock would
experience indirect costs from the public disclosure of Form ATS-N to
the extent that this form would reveal information to competitors.\329\
If such a New Rule 3b-16(a) System in part relies on certain
operational characteristics (e.g., order types, trading
functionalities) to attract customer order flow and generate trading
revenues, it is possible that the public disclosure of these
characteristics in Form ATS-N would make it easier for other trading
venues to adopt the operational characteristics, which would lower
trading volume and reduce revenue of the disclosing New Rule 3b-16(a)
System. Such costs to the disclosing entity would constitute transfers
to competing ATSs rather than a net cost to the market. To the extent
that a New Rule 3b-16(a) System trades any crypto assets that are NMS
stocks, it might experience these transfers described in the Proposing
Release. Furthermore, because some New Rule 3b-16(a) Systems involve
systems which run with an on-chain
[[Page 29481]]
component,\330\ and therefore may operate using code that is, at least
in part, publicly viewable, it is possible that the adverse impact of
these disclosures may be reduced, for such systems. However, because
this code is not disclosed in a standardized or human-readable form,
the Commission believes that this reduction of impact may not be
significant.
---------------------------------------------------------------------------
\329\ See id.
\330\ For example, the system may be run in part by smart
contracts deployed on a blockchain. See supra section V.B.1.a for
additional discussion of such systems.
---------------------------------------------------------------------------
The Commission believes that the risk of these transfers is low
because it is not likely the responsive information to Form ATS-N, as
proposed to be amended, would include detailed enough information
regarding operational facets such that the public disclosure of the
information would allow another ATS to replicate the functionality to
the extent it would adversely affect the competitive position of the
disclosing ATS in the market.\331\
---------------------------------------------------------------------------
\331\ See id.
---------------------------------------------------------------------------
The Commission believes that New Rule 3b-16(a) Systems that trade
NMS stocks (including NMS Stock ATSs that would no longer be excluded
from Fair Access compliance under Rule 301(b)(5)(iii) as proposed),
equity securities that are not NMS stocks, corporate debt securities,
or municipal securities could indirectly experience costs in the form
of lost revenue if they meet or exceed the Fair Access Rule thresholds
and need to alter their business model to comply with the requirements
of the Fair Access Rule.\332\ To the extent that any crypto asset
securities fall into these categories, the Commission believes that a
New Rule 3b-16(a) System that trades in them, including NMS Stock ATSs
that trade crypto asset securities that are NMS stocks and would no
longer be excluded from Fair Access compliance under Rule
301(b)(5)(iii) as proposed, might incur these costs discussed in the
Proposing Release.
---------------------------------------------------------------------------
\332\ See id.
---------------------------------------------------------------------------
As discussed in the Proposing Release,\333\ the Commission believes
that market participants could incur indirect costs related to New Rule
3b-16(a) Systems that trade NMS stocks (including NMS Stock ATSs that
would no longer be excluded from Fair Access compliance under Rule
301(b)(5)(iii) as proposed), equity securities that are not NMS stocks,
corporate debt securities, or municipal securities, being subject to
the Fair Access Rule. To the extent that a New Rule 3b-16(a) System
(including NMS Stock ATSs that would no longer be excluded from Fair
Access compliance under Rule 301(b)(5)(iii) as proposed) trades in
crypto assets that fall into any of the above categories of security,
market participants that trade on such platforms might experience
transfer costs through the same chain of events described in the
Proposing Release.
---------------------------------------------------------------------------
\333\ See Proposing Release at 15633.
---------------------------------------------------------------------------
Compared to larger and more established New Rule 3b-16(a) Systems
trading in crypto assets, it is possible that younger New Rule 3b-16(a)
Systems rely more on providing catered services, including more
advantageous access, to specific clients or a clientele, in order to
grow their businesses.\334\ If being subject to the Fair Access Rule
prohibits these New Rule 3b-16(a) Systems from doing this, these New
Rule 3b-16(a) Systems could restrict trading on their systems when they
are close to meeting the volume thresholds under the Fair Access
Rule.\335\ As in the Proposing Release, to the extent that the market
for trading services is competitive, the Commission believes this may
not result in a significant increase in trading costs for market
participants, because the order flow that was being sent to those New
Rule 3b-16(a) Systems would likely be absorbed and redistributed
amongst other New Rule 3b-16(a) Systems or other venues.\336\ However,
if a New Rule 3b-16(a) System that is the sole provider of a niche
service limits the trading in certain securities to avoid being subject
to the Fair Access Rule, it could be more difficult for some market
participants to find an alternative trading venue for that niche
service, which would result in a larger increase in trading costs.\337\
To the extent that a New Rule 3b-16(a) System trades in crypto assets
that are securities, the Commission expects these costs to apply to
such a New Rule 3b-16(a) System as described in the Proposing Release.
---------------------------------------------------------------------------
\334\ Id.
\335\ Id.
\336\ Id.
\337\ Id.
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As discussed in the Proposing Release,\338\ the Proposed Rules
apply certain aggregate volume thresholds to the Fair Access Rule in
the markets for corporate debt and municipal securities and equity
securities, which could also cause market participants to incur similar
indirect costs. If the aggregate volume of ATSs operated by a common
broker-dealer or operated by affiliated broker-dealers approaches the
Fair Access volume thresholds, then the operators could restrict
trading in one or more securities on their systems in order to avoid
being subject to the requirements of the Fair Access Rule.\339\ Market
participants could also incur indirect costs from the Proposed Rules to
apply certain aggregate volume thresholds to the Fair Access Rule if it
causes a broker-dealer or affiliated broker-dealers that operate
multiple ATSs to shut down one or more of their smaller ATSs in order
to avoid triggering the Fair Access threshold.\340\ This could cause
market participants that subscribed to one of the shutdown platforms to
incur search costs to find another venue to trade on.\341\ To the
extent that there exist crypto assets that fall into one of the above
asset classes, and are traded on ATSs, the Commission believes that
these indirect costs could apply as discussed in the Proposing Release.
---------------------------------------------------------------------------
\338\ Id.
\339\ Id.
\340\ Id.
\341\ Id.
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As discussed in the Proposing Release,\342\ the Commission believes
that market participants could incur indirect costs related to applying
Regulation SCI to New Rule 3b-16(a) Systems in the market for crypto
asset equity securities and applying Rule 301(b)(6) to New Rule 3b-
16(a) Systems in the market for crypto asset corporate debt securities
or municipal securities. If such a New Rule 3b-16(a) System is close to
satisfying the volume thresholds of Regulation SCI or Rule 301(b)(6),
it could limit the trading in certain securities on its systems to stay
below the volume thresholds in order to avoid being subject to
Regulation SCI or Rule 301(b)(6).\343\ As discussed above, the
Commission believes that in general this would not necessarily lead to
higher trading costs, but to the extent this occurs for a New Rule 3b-
16(a) System that is the sole provider of a niche service, some market
participants would incur higher trading costs.
---------------------------------------------------------------------------
\342\ Id.
\343\ Id.
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Additionally, in order to stay below the volume thresholds under
Regulation SCI or Rule 301(b)(6), a New Rule 3b-16(a) System could
break itself up into smaller New Rule 3b-16(a) Systems.\344\ If this
results in its subscribers changing their administrative and
operational procedures (e.g., means of access, connectivity, order
entry), the subscribers would incur costs associated with making those
administrative and operational changes to utilize the ATS(s), or
otherwise incur search costs to find another venue to trade.\345\ To
the extent that there exist crypto assets that fall into one of the
applicable asset
[[Page 29482]]
classes, and are traded on New Rule 3b-16(a) Systems, the Commission
believes that these costs could apply as discussed in the Proposing
Release.\346\
---------------------------------------------------------------------------
\344\ Id.
\345\ Id.
\346\ See id.
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ii. Costs Associated With the Proposed Functional-Test-Based Exchange
Definition
The proposed functional-test-based exchange definition could result
in increased legal costs for market participants. Specifically, the
Proposed Rules could cause market participants to engage in a more
thorough and expansive compliance review of any changes in operations
out of concern that a large range of activities might meet the proposed
definition of exchange. This approach could also increase uncertainty
about the application of the Proposed Rules, which in turn may further
increase legal costs.
In addition, market participants would decrease and slow down the
development of new products and technologies. Such development may
depend on the ability to rapidly develop and deploy new systems. The
need for more extensive compliance review, uncertainty about the
application of the Proposed Rules,\347\ and concerns that new systems
may inadvertently meet the definition of exchange \348\ could make such
a process more difficult. Market participants may come to regard some
areas of new product development as inherently risky, because of the
potential for regulatory costs, and decide to stop engaging in them.
---------------------------------------------------------------------------
\347\ One commenter agrees with assessment. See DARLA, GBC, and
Global DCA Letter at 6 (stating that the broad language in the
Proposed Rules ``. . . would likely cause chilling effects and deter
further innovation and activity among early-stage technology
companies due to uncertainty over which technology services would
satisfy the new and expanded definition of exchange.'')
\348\ One commenter expresses such concerns, stating ``[w]e have
significant concern that a lack of a specific definition for such a
broadly explained term will cause ongoing confusion and, as a
result, increase the potential for a market participant to
inadvertently run afoul of the obligations set forth in the
Proposals.'' See Chamber Letter at 4.
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One commenter states that the uncertainty caused by the expanded
definition of exchange in the Proposed Rules ``. . . is concerning and
likely to stifle innovation.'' \349\ Another commenter states that the
uncertainty of exposure to enforcement actions might stifle
innovation.\350\ While the Commission does not believe that innovation
will be impossible under the Proposed Rules, we acknowledge that there
could be less innovation as a result of the uncertainty and compliance
costs associated with the broad formulation of the Proposed Rules.
---------------------------------------------------------------------------
\349\ See McHenry/Huizenga Letter at 2.
\350\ See LexPunK Letter at 2.
---------------------------------------------------------------------------
iii. Costs Associated With Discontinuation of Non-Security-for-Security
Pairs Trading
Many crypto asset securities are not traded in exchange for fiat
currencies but are instead traded for other crypto assets. To the
extent that a New Rule 3b-16(a) System enables the trading of crypto
asset securities for crypto assets that are not securities, that entity
may also incur the cost of having to stop enabling such trades, and the
resulting loss of revenue. Because pairs trading is common in crypto
asset markets, this cost may be significant for some New Rule 3b-16(a)
Systems. These costs may be mitigated if affected New Rule 3b-16(a)
Systems are able to arrange for a fiat currency market for the relevant
crypto asset security, and a separate fiat currency market in a
separate entity for the non-security crypto asset, so that it can
arrange for a pair of trades to take place that closely replicates the
desired trade. For systems that wish to complete the transaction
entirely on-chain, such arrangements are likely to be impossible, and
this mitigation would therefore not apply to them.
Furthermore, because existing national securities exchanges and
ATSs currently do not facilitate trading between crypto asset
securities and non-security crypto assets, the loss of New Rule 3b-
16(a) Systems as platforms for engaging in such trades may be a
significant cost for market participants in crypto asset markets. The
inability to complete such trades using New Rule 3b-16(a) Systems could
require market participants to switch to other means of trading, such
as bilateral voice trading. To the extent such trading methods are not
the market participant's preferred method, this would increase trading
costs. Market participants may be able to mitigate these costs if New
Rule 3b-16(a) Systems are able to provide cash markets for the relevant
crypto assets, and arrange for a pair of trades that would closely
replicate the desired exchange.
c. Costs for Platforms Using Certain Technologies
The Commission preliminarily believes that there may be costs
associated with complying with the Proposed Rules for New Rule 3b-16(a)
Systems that would perform exchange activities using certain
technologies that are used in the market for crypto asset trading
services.\351\ The Commission is unable to provide an exact estimate or
quantitative range for these compliance costs, because the Commission
lacks sufficient detail about the variety of platforms whose systems
use these technologies, or their options to comply. In the following
subsections the Commission provides a range of compliance costs related
to responsibilities for compliance, as well as a discussion of the
factors associated with certain technologies that might increase the
compliance costs of certain specific requirements. It is possible that
operating a system that uses these technologies to perform exchange
activities under the Proposed Rules in a manner that complies with
applicable regulations could significantly reduce the extent to which
the system is ``decentralized'' or otherwise operates in a manner
consistent with the principles that the crypto asset industry commonly
refer to as ``DeFi.''
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\351\ One commenter on the Proposing Release states that due to
the ``decentralized and autonomous nature of Decentralized
Protocols, and the lack of an intermediary who could serve as a
broker-dealer affiliate,'' the Proposed Rules would impose
significant burdens that had not been considered. See Blockchain
Association Letter II at 8. The Commission believes that the general
costs described throughout section V.C.2 as applicable, and the
specific costs discussed in this subsection, provide the necessary
consideration of such burdens.
---------------------------------------------------------------------------
i. Initial Costs of Compliance
The Commission preliminarily believes that some New Rule 3b-16(a)
Systems that trade crypto asset securities may incur greater initial
costs to come into compliance, due to these systems' use of certain
technologies that, for example, allow them to automate portions of
their operations using smart contracts deployed on an underlying
blockchain.\352\ The Commission believes that there are a range of such
technologies, or a range of systems' use of such technologies, that
would entail differing initial costs, and has prepared a description of
two scenarios that we preliminarily believe covers the range of costs
likely to occur.\353\ These scenarios consist of an example of a system
that would likely have the lowest possible costs of compliance for a
system using such technologies, and an example of a hypothetical system
in which the cost of compliance is likely to be the highest possible.
The Commission preliminarily believes that the initial compliance costs
of the typical New Rule 3b-16(a) System that performs exchange
[[Page 29483]]
activities using such technologies would fall in between the costs
associated with these two examples. The Commission requests comment on
the issue of compliance costs of New Rule 3b-16(a) Systems that operate
in this manner.
---------------------------------------------------------------------------
\352\ These technologies include, but are not limited to, system
architectures that permit RFQ systems to be run partly or wholly on-
chain using smart contracts.
\353\ Providing an estimate corresponding to every
hypothetically possible design of systems using such technologies
would be impractical.
---------------------------------------------------------------------------
At the low end of the range, the Commission preliminarily believes
a New Rule 3b-16(a) System that performs exchange activities using
these technologies may incur similar costs to those of a New Rule 3b-
16(a) System that does not use such technologies.\354\ This lower bound
is based on consideration of a hypothetical system using such
technologies in a way that the Commission believes would tend to
present the least difficulty in complying with the Proposed Rules. This
low-cost hypothetical case consists of a New Rule 3b-16(a) System that
would automate a portion of its operations using a set of smart
contracts \355\ that it developed and deployed itself; would have the
sole right and means \356\ to make alterations to the deployed smart
contracts; would receive any fees charged by the smart contracts, as
well as any fees collected in connection to the service through other
means; and would maintain all off-chain operations that might be
necessary to run the service.
---------------------------------------------------------------------------
\354\ See supra section V.C.2.a and V.C.2.b covering these
costs.
\355\ See supra section V.B.1.a discussing smart contracts for
DeFi platforms and their management.
\356\ Possession of the sole means to make alterations to a
smart contract could consist of a design in which changes may be
made to the smart contract's code by using a unique private key, and
where that key is in the sole possession of the firm.
---------------------------------------------------------------------------
In this case, the Commission believes the responsibility to bring
such a New Rule 3b-16(a) System into compliance may fall to this firm
and that under such circumstances, the cost of compliance would be
similar to that of a New Rule 3b-16(a) System that does not automate
any portion of its operations using a smart contract, as detailed in
sections V.C.2.a and V.C.2.b above. In particular, any alterations that
may need to be made to the smart contracts connected with the system in
order to bring it into compliance with the relevant regulations could
be implemented in a manner similar to alterations made to software
generally, due to the firm's control over those smart contracts.
The Commission preliminarily believes that a New Rule 3b-16(a)
System that performs its exchange activities in part using smart
contracts, but that is not set up in the manner described above, may
have significantly higher costs of compliance than the lower bound. The
Commission is unable to provide a quantitative estimate of an upper
bound because the Commission lacks information on the costs of the
activities which may be necessary for more complex systems using such
technology to come into compliance.\357\ The Commission preliminarily
believes that a reasonable case, in which the highest possible
compliance costs would result, would be a New Rule 3b-16(a) System that
performs exchange activities in part using smart contracts, but in
which control over changes to the smart contracts is given to a token-
based voting mechanism, which may use governance tokens as discussed
above,\358\ and where the tokens are dispersed among a large number
\359\ of investors.
---------------------------------------------------------------------------
\357\ In particular, the Commission does not have examples of
systems using such technology that are registered with the
Commission as an exchange or as an ATS. See supra section V.B.2.
\358\ See supra note 15.
\359\ ``Large'' could mean millions of retail investors, each
with some share in the vote determined by the number of tokens they
hold. One prominent DeFi platform has approximately 755 million
outstanding tokens, each with a share in governance votes. See Curve
DAO, CoinGecko, available at https://www.coingecko.com/en/coins/curve-dao-token. The Commission understands that, while protocols
may have a large number of outstanding governance tokens, control of
those tokens (or their voting rights) may be held by a limited
number of entities.
---------------------------------------------------------------------------
In this scenario, the Commission believes that the holders of the
governance tokens, or other tokens that carry voting rights, may bear
the responsibility of ensuring the compliance of the system. In such a
scenario, the Commission believes that the holders of the relevant
tokens could choose to form an organization or association, or to
designate a member of a group of persons, which would be responsible
for undertaking the activities necessary to bring the New Rule 3b-16(a)
System into compliance with Regulation ATS.
The costs to produce such an organization or association, or to
designate a member of a group of persons may involve the effort
required on the part of the relevant token holders to coordinate and
reach agreement on the design of such an organization,\360\ legal
expenses associated with the design and legal registration of the
entity, or costs involved with designating a member of the group of
persons responsible for ensuring compliance. If the relevant tokens of
a smart contract entitle their holders to a share of transaction fees
paid to the smart contract, or some other form of return, these
expenses could be paid using such returns; otherwise, the holders of
the tokens themselves may have to supply the necessary funds.
---------------------------------------------------------------------------
\360\ The Commission believes that this may be a difficult
undertaking, given the potentially large number of individuals and
entities that would have to reach agreement. Such entities may also
lack the sophistication or resources required to easily navigate the
process of forming such an organization or association and coming
into compliance.
---------------------------------------------------------------------------
Also, because changes to the smart contracts would require a vote,
the Commission preliminarily believes that the process of implementing
any changes to the smart contracts that are required for compliance may
be more costly than in the case where a single firm holds all control.
It is possible that, when it becomes necessary for the holders of
relevant tokens to form an organization or association, or to designate
a member of a group of persons, some of those holders might choose to
sell their tokens to avoid taking on regulatory burdens, which the
Commission expects would ultimately result in there being fewer holders
of the governance tokens. The Commission does not have the data it
would need to estimate the extent to which this would happen, but to
the extent that this process significantly reduces the number of
holders of a smart contract's governance tokens, the Commission expects
that the costs of compliance for such a smart contract would fall
between the two extremes already discussed.
The Commission believes that there is a third configuration of
smart contract management which may have costs either inside the range
described above or outside this range. This is the configuration
entailed by a New Rule 3b-16(a) System that would automate all of its
operations via smart contracts that are immutable. This immutability
makes it impossible to alter the code of a smart contract using the
typical processes of a public blockchain once it has been deployed,
even by the entity responsible for its deployment and responsible for
bringing such a system into compliance. However, the Commission
understands that it is possible for the miners or validators of a smart
contract's underlying blockchain to effect a change to a blockchain
through, for example, a fork that would impact interactions with the
immutable smart contract, and that this capacity has already been used
on rare occasions.\361\
---------------------------------------------------------------------------
\361\ See, e.g., https://spectrum.ieee.org/ethereum-blockchain-forks-to-return-stolen-funds, discussing how miners of a major
public blockchain ``forked'' the chain to change an undesired
result.
---------------------------------------------------------------------------
In this case, the costs would depend on the specific factual
circumstances, including, among other considerations, the activities
performed by persons that, for example, could fund or code changes to
the blockchain, or validate or mine
[[Page 29484]]
the transactions, or some combination thereof.\362\ It is possible that
in this case costs may exceed the upper bound described above.\363\ The
Commission is uncertain as to the exact size of the costs that may be
involved and requests comment on the issue.
---------------------------------------------------------------------------
\362\ See supra notes 75-80 and accompanying text.
\363\ The Commission preliminarily believes that costs may be
higher for reasons that might include technical difficulties that
would not be encountered when bringing a Rule 3b-16(a) System based
on a mutable smart contract into compliance.
---------------------------------------------------------------------------
In addition, the Commission preliminarily believes that in a
circumstance in which only validators or miners are able to stop
effectuating transactions that trigger the automated operations of a
smart contract, the validators or miners may discontinue processing
transactions resulting from trading interest matched by the New Rule
3b-16(a) System. In the event that validators or miners choose to
discontinue processing such transactions, there may be costs to market
participants associated with arranging to direct their trading interest
to other venues. If instead miners or validators incur costs by
choosing to continue processing transactions of such a system, the
Commission preliminarily believes that they may pass on some of these
costs to users, as described above.\364\ It may also be the case that
even if the miners or validators as a whole opt to effect a change to a
blockchain or smart contracts, some miners or validators could choose
to cease processing transactions of a blockchain.
---------------------------------------------------------------------------
\364\ See supra section V.C.2.a.
---------------------------------------------------------------------------
The Commission is not aware of a specific example of a New Rule 3b-
16(a) System which automates all of its operations by means of
immutable smart contracts. However, the Commission has limited
information on such systems and requests comment on this issue.
One commenter describes ``practical considerations'' that it
believes might mean that it was ``not possible'' for certain systems,
which they term ``Decentralized Exchanges'' or ``DEXes,'' to comply
with the Proposed Rules.\365\ These considerations include the fact
that, once launched, smart contracts ``are not controlled or
intermediated by any person or group of persons,'' \366\ and in
particular, that responsibility for the system could not be attributed
to the persons who created or deployed the smart contract because
``once deployed, the DEX typically cannot be significantly altered or
controlled by any such persons.'' \367\
---------------------------------------------------------------------------
\365\ See Coinbase Letter at 7.
\366\ See id. at 6.
\367\ Id.
---------------------------------------------------------------------------
The Commission preliminarily believes that our analysis adequately
addresses these concerns. Specifically, smart contracts can be
controlled after deployment, however, in some instances, the functions
of miners or validators may be needed to exert such control. The
discussion above provides a range of possible scenarios that have
different possible costs and may result in different entities being
affected, but the Commission believes that these costs are not
impossible to pay.\368\
---------------------------------------------------------------------------
\368\ As discussed above, these costs may be high enough that
the group of persons responsible for the exchange choose to exit the
market for crypto asset security trading services rather than
continue operations. See infra section V.C.3.a (discussing entry and
exit as result of compliance costs).
---------------------------------------------------------------------------
Another commenter states that the compliance burdens imposed by the
Proposed Rules ``may simply be insurmountable due to the
incompatibility of the decentralized nature of Decentralized Protocols
with the requirement for a centralized, regulated intermediary imposed
by the `exchange' definition.'' \369\ This commenter also states that
``it is unclear how [persons related to Decentralized Protocols] could
achieve compliance with the relevant regulations.''
---------------------------------------------------------------------------
\369\ See Blockchain Association Letter II at 8.
---------------------------------------------------------------------------
The Commission acknowledges that, in the case of New Rule 3b-16(a)
Systems that use the technologies discussed above to automate portions
of their operations using smart contracts, validators and miners may
choose to take actions to form a single entity, like an organization,
and register with the Commission. The Commission preliminarily believes
that our analysis, given above, adequately addresses these concerns of
control over the smart contract, which entities may incur the costs of
compliance, and how large those costs may be. However, the Commission
acknowledges that these costs may cause some or all of the entities
that make available such a system to cease the activities that make
them responsible for the system's compliance, potentially resulting in
the system's exit from the market.
Another commenter raises concerns about potential impossibility of
limiting certain systems' activity to non-securities trading in the
event that the creators of the system wish to avoid having to comply
with federal securities laws, stating that it would be impossible for
any ``organization, group or association'' to ensure no securities are
made available for trading on such a system.\370\
---------------------------------------------------------------------------
\370\ See Delphi Digital Letter at 7.
---------------------------------------------------------------------------
The Commission acknowledges that there may be existing New Rule 3b-
16(a) Systems, with smart contracts designed to permit anyone with
access to the blockchain to begin trading in any crypto asset supported
by the blockchain, including those that are securities. In such
circumstances, the smart contract(s) may have to be altered in order to
ensure that the system does not trade securities. As discussed above,
this could be achieved either by any organization, association, or
group of persons that can make changes to the smart contract, or by the
miners or validators of the relevant blockchain in the event that the
smart contracts are immutable.
Because of the easily accessible nature of many public blockchains,
the Commission preliminarily believes that construction, deployment,
and maintenance of a New Rule 3b-16(a) System that uses the
technologies described above could be achieved by groups of persons who
are unsophisticated participants in financial markets and may not
appreciate the significance of maintaining a system that meets the
definition of exchange as proposed to be amended and therefore of
having obligations to comply with the relevant securities laws. The
Commission believes that the costs of compliance for such persons would
be higher because of their lack of experience with federal securities
laws. Some such persons may choose to discontinue their systems rather
than bear the costs of compliance.
ii. Unique Costs for Systems Using Certain Technologies
The Commission preliminarily believes that certain New Rule 3b-
16(a) Systems may have difficulties in complying with some rules. The
New Rule 3b-16(a) Systems which may have such difficulties are systems
which use technologies that, for example, allow them to automate
portions of their operations using smart contracts deployed on an
underlying blockchain. The rules for which there may be such
difficulties include Regulation SCI, as well as the Fair Access Rule of
Regulation ATS. Systems that use these technologies may have
difficulties in complying with these rules when compared with platforms
that do not use such technologies. For example, there may be
difficulties in ensuring the compliance of SCI systems that run using
DLT, such as smart contracts.
One commenter states that the realities of decentralization make
compliance ``impracticable'' for certain systems, which the commenter
terms ``DeFi.'' \371\ This commenter questioned
[[Page 29485]]
what entity or group of entities involved in the operation of such a
system would be responsible for complying with Regulation ATS,\372\ and
additionally stated that even if this were clear, it was not obvious
that this party would have the necessary information to fulfill that
responsibility.
---------------------------------------------------------------------------
\371\ See a16z Letter at 14.
\372\ See id. at 3, 14.
---------------------------------------------------------------------------
The Commission discusses above that a DLT-based market place or
facilities for bringing together buyers and sellers of securities is
typically maintained or provided by a single organization but a
combination of the actors can constitute, maintain, or provide,
together, a market place for securities as a group of persons, which
would be considered an exchange under section 3(a)(1) of the Exchange
Act and Rule 3b-16 thereunder.\373\ The Commission acknowledges that
there may be some existing systems of this type designed in such a way
that the information necessary to comply with the disclosure
requirements of Regulation ATS is not possessed by any singular entity.
In such a case, the Commission believes that the entities responsible
for compliance may find it necessary to form an organization or
designate a member of the group of persons to be responsible for
compliance, as discussed above,\374\ and that such an organization or
member of the group of persons would be capable of collecting the
information necessary to comply. In cases of a system using DLT, where
some or all of this information is not already possessed by entities
responsible for compliance, the manner in which the system functions
may have to be altered to make compliance with registration
requirements possible. As discussed above,\375\ this could be achieved
by the organization or group of persons responsible.
---------------------------------------------------------------------------
\373\ See supra section II.B.
\374\ See supra section V.C.2.c.i.
\375\ See supra section V.C.2.c.i.
---------------------------------------------------------------------------
The Commission believes that access to New Rule 3b-16(a) Systems
that make extensive use of DLT in their operations may happen through
processes not common to systems that do not make extensive use of such
technology. In this case, such a New Rule 3b-16(a) System may have
significant challenges in ensuring compliance with the Fair Access Rule
of Regulation ATS.
The challenges that may be faced by New Rule 3b-16(a) Systems that
make extensive use of DLT in complying with Regulation ATS and
Regulation SCI may impose significant costs. It is possible that these
costs may cause some such systems to exit the market, or to restructure
their technology to facilitate a lower compliance cost. In addition,
compliance with the applicable regulations may result in significant
alteration to the manner in which such systems operate.
3. Efficiency, Competition, and Capital Formation
a. Competition
The Commission believes that the Proposed Rules could affect
competition. The Proposed Rules could promote competition by requiring
ATSs and New Rule 3b-16(a) Systems to operate on a more equal basis in
the market for crypto asset securities trading services. The Fair
Access Rule of Regulation ATS could promote competition in the market
for trading services in the applicable securities markets.\376\
Furthermore, the public disclosure of Form ATS-N could promote
competition and incentivize innovation in the market for trading
services in the applicable securities markets.\377\
---------------------------------------------------------------------------
\376\ See infra section V.C.3.a.i.e. for discussion about the
impact of the Fair Access Rules on competition.
\377\ See infra section V.C.3.a.i.f for discussion about the
impact of public disclosure via Form ATS-N under Rule 304 of
Regulation ATS on competition.
---------------------------------------------------------------------------
Also, the costs of the Proposed Rules associated with, among other
things, altering business practices to come into compliance, becoming a
broker-dealer, filing Form ATS or Form ATS-N as applicable, and
complying with the Fair Access Rule of Regulation ATS and Regulation
SCI as applicable could result in higher barriers to entry and
reduction in the rate of adoption of new technologies in the market for
crypto asset securities trading services. Furthermore, the requirements
of broker-dealer registration, Form ATS, and Form ATS-N could reduce
operational flexibility. The Commission acknowledges that this
reduction in operational flexibility could, under certain
circumstances, make it more difficult to innovate. That said, in
addition to the other benefits discussed above,\378\ the Commission
believes that the proposed amendments would foster competition by
requiring current ATSs and New Rule 3b-16(a) Systems to operate on a
more equal basis in the market for trading services. This, in turn,
would help promote innovation. To the extent that the Proposed Rules
result in significant costs for New Rule 3b-16(a) Systems, these
systems could exit the market for crypto asset securities trading
services. In particular, to the extent that New Rule 3b-16(a) Systems
using certain technologies incur higher costs,\379\ there may be a
higher chance of these New Rule 3b-16(a) Systems exiting the market. As
in the Proposing Release, the Commission lacks certain information
necessary to quantify the extent to which entities that otherwise would
seek to operate as a trading venue in the market for crypto asset
securities would be dissuaded from doing so.
---------------------------------------------------------------------------
\378\ See supra section V.C.1
\379\ See supra section V.C.2.c.
---------------------------------------------------------------------------
However, the Commission believes that these adverse effects on
competition could be mitigated to some extent. To the extent that the
market for crypto asset securities trading services is competitive and
that a limited number of New Rule 3b-16(a) Systems exit the market, the
adverse effect on overall competition among trading platforms would be
mitigated to some extent because the order flow that was being sent to
exiting New Rule 3b-16(a) Systems would likely be absorbed and
redistributed amongst other New Rule 3b-16(a) Systems or systems that
meet the existing criteria of Rule 3b-16(a).\380\
---------------------------------------------------------------------------
\380\ To the extent that the market for trading services is
competitive, the adverse effect on competition may not result in a
significant increase in trading costs for market participants
because the order flow that was being sent to those exiting New Rule
3b-16(a) Systems would likely be absorbed and redistributed amongst
other New Rule 3b-16(a) Systems or systems that meet the existing
criteria of Rule 3b-16(a).
---------------------------------------------------------------------------
One commenter states that regulating ``DeFi protocols or CPSs (or
related parties)'' as exchanges might ``operate as a ban'' due to the
inability of those entities to comply with registration
requirements.\381\ Another commenter also states that the proposed
amendments might amount to a ``back-door prohibition of a vast swathe
of actual and potential peer-to-peer finance protocols'' due to the
inability for some entities to feasibly comply.\382\ Another commenter
states that ``subjecting DeFi systems to a regulatory regime that they
cannot comply with'' could force them into extinction.\383\
---------------------------------------------------------------------------
\381\ See DeFi Education Fund Letter at 8.
\382\ See Wells Letter at 1.
\383\ See a16z Letter at 11.
---------------------------------------------------------------------------
The Commission acknowledges that the costs of compliance may be
greater for market participants that trade crypto asset securities than
for those that trade non-crypto asset securities. However, the
Commission believes that the additional costs of compliance experienced
by market participants that trade crypto asset securities will vary
depending on the technologies these participants use to perform
exchange activity. The Commission lacks some information necessary to
precisely estimate the degree to which these
[[Page 29486]]
market participants may experience greater costs of compliance, but
expects that such costs would fall within a range. At the lower end of
the range, the Commission believes that market participants that use
technologies similar to those commonly used in the market for
traditional securities, such as off-chain RFQ systems, will also incur
similar costs of compliance. At the other end of the scale, the
Commission expects that costs of compliance may be significantly higher
for market participants that extensively or exclusively use DLT, such
as smart contracts, to perform exchange activities. Accordingly, while
the Commission acknowledges that the Proposed Rules could raise
barriers to entry into the market for crypto asset security trading
services, the Commission believes that these barriers would be most
significant for market participants that perform exchange activity in a
way that extensively or exclusively uses DLT. The Commission
additionally believes that for market participants that perform
exchange activity using non-DLT methods, these barriers would likely be
comparable to those experienced by participants in the market for
traditional securities trading services.
One commenter states that the cost of compliance and consequences
of non-compliance would have the effect of ``chilling, restricting or
prohibiting outright the creation of code for peer-to-peer digital
asset trading or websites that provide access to information about
those protocols.'' \384\ Another commenter states that, to the extent
that ``adoption of the Proposal will cause the developers of code and
smart contracts related to a Decentralized Protocol, or the maintainers
of online websites that merely enable access to a Decentralized
Protocol, to be captured under the `exchange' definition,'' the
proposal might cause such persons to cease their activities, ``dealing
a death blow to new activity in this sector.'' \385\
---------------------------------------------------------------------------
\384\ See Delphi Digital Letter at 11.
\385\ See Blockchain Association Letter II at 6.
---------------------------------------------------------------------------
The Commission does not believe that the amended definition of
exchange would include the entities responsible for these
``Decentralized Protocols'', except to the extent that they also engage
in activity that meets the definition of exchange as proposed to be
amended in the Proposed Rules.\386\ While the Commission acknowledges
that the Proposed Rules may impose compliance costs, the Commission
does not believe that the circumstances in which such entities would
incur compliance costs would differ from the circumstances in which
entities in non-crypto asset securities would incur compliance costs,
namely, at the point at which such an entity engages in activity that
meets the definition of exchange as proposed to be amended. However,
the Commission acknowledges that because the compliance costs for
entities that trade crypto asset securities may be higher than for
those that trade non-crypto asset securities,\387\ the impact of those
costs on innovation in crypto asset securities may be greater.
---------------------------------------------------------------------------
\386\ See supra section V.C.2.a.
\387\ See supra sections V.C.2.a and V.C.2.c.ii.
---------------------------------------------------------------------------
One commenter stated that the Proposed Rules might ``drive
financial innovation offshore.'' \388\ This commenter also added that
the Proposed Rules ``would preclude the development in the U.S. of many
software tools and applications, including, but not limited to, DeFi
protocols.'' \389\
---------------------------------------------------------------------------
\388\ See DeFi Education Fund Letter at 12.
\389\ See id. at 17.
---------------------------------------------------------------------------
The Commission acknowledges that, to the extent that the Proposed
Rules impose compliance costs on entities responsible for innovation,
such costs may affect their decision on which jurisdiction they choose
to operate their business in. However, the Commission believes that
these costs may be mitigated. The Commission believes that, at the
lower end of this range, an entity that engages in the development of
new technologies in the market for crypto asset trading services would
incur compliance costs only once its innovative technology allows
investors to trade securities. If such an entity develops its
technology in an environment that does not enable investors to trade
securities, such as a testnet,\390\ the Commission does not believe it
would incur compliance costs in connection with these activities.
Additionally, while the Commission lacks certain data that would enable
the Commission to precisely estimate the compliance costs that an
innovative entity would face once its innovative technology enables
investors to trade crypto asset securities, it believes that these
costs would lie within a range. At the lower end of this range, the
Commission believes that a market participant that uses innovative
technology similar to technology that is used in traditional financial
markets would also incur similar compliance costs. At the other end of
the scale, the Commission expects that compliance costs would be
largest for entities developing technologies that rely heavily on DLT,
such as smart contracts, to perform exchange activity, and have minimal
or no off-chain components. The Commission additionally believes that
many systems that would experience these higher costs could be
restructured to make less extensive use of these novel technologies,
although this could significantly reduce the extent to which these
systems operate in accordance with ``DeFi'' principles.
---------------------------------------------------------------------------
\390\ This term refers to a blockchain designed to test
technologies, such as smart contracts, in a manner that involves no
risk of monetary loss. Testnets support a set of tokens that are
distinct from ``mainnet'' tokens, and which are freely available
from ``faucets'' that add them to wallets on request. As such,
testnet tokens have no monetary value and are not securities. See
https://coinmarketcap.com/alexandria/glossary/testnet.
---------------------------------------------------------------------------
One commenter states their belief that the Proposed Rules would
cause platforms to either ``operate exclusively outside the United
States or exit the business,'' due to lack of a ``realistic prospect of
obtaining SEC authority to operate as an exchange or SEC and FINRA
authority to operate as an ATS.'' \391\ This commenter notes that the
Commission had not, at the time of writing, ``registered any digital
asset platform as an exchange.'' \392\
---------------------------------------------------------------------------
\391\ See GDCA Letter II at 7.
\392\ See id. at 13.
---------------------------------------------------------------------------
While the Commission acknowledges that the Proposed Rules would
impose costs on New Rule 3b-16(a) Systems that trade crypto asset
securities, which may in turn raise barriers to entry as discussed
above or create incentives to exit the market, the Commission disagrees
that compliance would be ``infeasible.'' The Commission has discussed,
above, the manner and extent to which it believes that compliance costs
may create barriers to entry for market participants that seek to trade
crypto asset securities. To the extent that market participants that
trade crypto asset securities face barriers to entry or incentives to
exit due to higher compliance costs, or perceive this to be the case,
the Commission acknowledges that such entities may instead choose to
operate outside the U.S. or exit the market.
i. Regulation ATS
(a) Regulatory Framework
Market participants may consider registered exchanges, ATSs, and
broker-dealers (e.g., single dealer platforms) to send their order flow
in crypto asset securities. As discussed in the Proposing Release,\393\
to the extent that current ATSs and New Rule 3b-16(a) Systems compete,
the proposed changes to Exchange Act Rule 3b-16, which would subject
New Rule 3b-16(a) Systems to the exchange regulatory
[[Page 29487]]
framework, which includes the option to comply with Regulation ATS,
would promote competition by requiring current ATSs and New Rule 3b-
16(a) Systems to operate on a more equal basis in securities markets.
The Commission believes this to be the case in the market for crypto
asset securities as it is in the market for the securities discussed in
the Proposing Release. To the extent that registered exchanges, ATSs,
broker-dealers compete for order flows in the crypto asset securities
market, the differential compliance costs for exchange, ATS, and
broker-dealer would affect competition across these different types of
trading platforms. The Commission acknowledges that national securities
exchanges would incur significantly higher compliance costs than ATSs
and broker-dealers, and ATSs would incur higher compliance costs than
broker-dealers. Higher compliance costs could put registered exchanges
at a disadvantage in competing against ATSs and broker-dealers that
trade the same types of securities, and similarly put ATSs at a
disadvantage in competing against broker-dealers. Although registered
exchanges, ATSs, and broker-dealers may compete for order flows, they
provide different services and are subject to different regulatory
obligations. Furthermore, to the extent that New Rule 3b-16(a) Systems
that use certain technologies to compete with other New Rule 3b-16(a)
Systems for order flows, higher costs for New 3b-16(a) Systems that use
certain technologies would put such systems at a competitive
disadvantage against other New Rule 3b-16(a) Systems.\394\
---------------------------------------------------------------------------
\393\ See Proposing Release at 15634.
\394\ See supra section V.C.2.c for discussion about the
additional costs for New 3b-16(a) Systems that use certain
technologies.
---------------------------------------------------------------------------
One commenter states that the Proposed Rules would advantage
``traditional financial services companies,'' due to ``fundamentally
dissimilar technologies.'' \395\ This commenter adds that the Proposed
Rules would ``limit competition and transparency by entrenching
existing market players'' to the detriment of investors and the public,
but does not specify who these existing market players might be.\396\
The commenter additionally states their concern that the Proposed Rules
might include in the revised definition of exchange certain entities
that contribute code ``to an open-source project that subsequently
allows third parties to engage in trading activity'' but have no
ability ``to supervise that activity or impose limitations on the types
of orders that are entered.'' The commenter states that under the
Proposed Rules, a developer that cannot comply with registration
requirements might leave the market or provide services to a
traditional trading platform, ``further entrenching the traditional
systems.''
---------------------------------------------------------------------------
\395\ See DeFi Education Fund Letter at 2.
\396\ See DeFi Education Fund Letter at 10.
---------------------------------------------------------------------------
The Commission does not believe that the amended definition of
exchange would include the entities responsible for innovation in the
markets for crypto assets or crypto asset trading services, except to
the extent that they also engage in activity that meets the definition
of exchange as amended in the Proposed Rules.\397\ The Commission
acknowledges that, to the extent that market participants who trade
crypto asset securities compete with traditional financial services
firms and that such market participants incur greater costs of
compliance,\398\ the Proposed Rules could give traditional financial
services firms a competitive advantage. Because the Commission lacks
information on the degree to which such market participants would incur
greater costs of compliance, the Commission cannot estimate the extent
of this advantage. Additionally, the Commission believes that the
Proposed Rules would cause New Rule 3b-16(a) Systems to compete on a
more equal basis with their main competitors in the market for crypto
asset securities, which the Commission believes may already be subject
to federal securities regulations.\399\
---------------------------------------------------------------------------
\397\ See supra section V.C.2.a.
\398\ See supra sections V.C.2.a and V.C.2.c.
\399\ See supra section II.B.
---------------------------------------------------------------------------
As discussed in the Proposing Release,\400\ the Commission
acknowledges that some New Rule 3b-16(a) Systems could restructure
their operations to not meet the Rule 3b-16 criteria as proposed to be
amended to avoid being subject to Regulation ATS and Regulation SCI if
the requirements are too burdensome or impair the ability of the
trading venue to compete. As in the Proposing Release, the Commission
believes that the risk of this occurring may be mitigated because the
proposed amendments to Rule 3b-16 may make it difficult for New Rule
3b-16(a) Systems to restructure their operations to not meet the Rule
3b-16 criteria as proposed to be amended. To the extent this does
occur, the benefits and enhancements to competition discussed above
would be reduced. The Commission believes that these effects would
apply to New Rule 3b-16(a) Systems that trade in crypto asset
securities as they would to New Rule 3b-16(a) Systems that trade the
securities discussed in the Proposing Release.
---------------------------------------------------------------------------
\400\ See Proposing Release at 15634.
---------------------------------------------------------------------------
As discussed in the Proposing Release,\401\ the Commission
acknowledges that subjecting New Rule 3b-16(a) Systems to the
requirements of Regulation ATS could reduce operational flexibility.
For example, it would be more costly for New Rule 3b-16(a) Systems to
implement significant changes to operational facets that would be
required to be reported on Form ATS or Form ATS-N. This reduction in
operational flexibility could, under certain circumstances, make it
more difficult to innovate. The Commission believes this effect would
apply to New Rule 3b-16(a) Systems that trade crypto asset securities
in the same manner that it would to New Rule 3b-16(a) Systems that
trade non-crypto asset securities discussed in the Proposing Release.
However, as in the Proposing Release, in addition to the other benefits
discussed above, the Commission believes that the Proposed Rules could
foster competition by requiring current ATSs and New Rule 3b-16(a)
Systems to operate on a more equal basis in the market for crypto asset
security trading services. This, in turn, could help promote
innovation.
---------------------------------------------------------------------------
\401\ See id.
---------------------------------------------------------------------------
(b) Compliance Costs of Regulation ATS
To the extent that the costs \402\ associated with altering
business practices for New Rule 3b-16(a) Systems to come into
compliance with Regulation ATS are significant enough to make these
systems unprofitable, these systems could exit the market for crypto
asset securities trading services, adversely affecting
competition.\403\ To the extent that New Rule 3b-16(a) Systems using
certain technologies incur additional costs to come into compliance
with Regulation ATS, these systems could have a higher chance of
exiting the market for crypto asset securities trading services.\404\
Furthermore, to the extent the Proposed Rules result in a New Rule 3b-
16(a) System that trades less liquid securities exiting the market for
trading services, it could increase the trading costs of its
[[Page 29488]]
subscribers if they need to find a new trading venue or are forced to
go through multiple intermediaries (i.e., broker-dealers) to find
counterparties. However, to the extent that the market for crypto asset
securities trading services is competitive and that a limited number of
New Rule 3b-16(a) Systems exit the market, the adverse effect on
overall competition among trading platforms would be mitigated to some
extent.
---------------------------------------------------------------------------
\402\ See infra sections V.C.3.a.i.c) and V.C.3.a.i.d) for
discussions about the impact of costs associated with Rule 301(b)(1)
(broker-dealer registration requirements) and Rule 301(b)(5) (the
Fair Access Rule) of Regulation ATS on competition, respectively.
\403\ See supra sections V.C.2.b and V.C.2.c for discussion
about the costs associated with changing business practices to come
into compliance with Regulation ATS.
\404\ See supra section V.C.2.c for discussion about the
additional costs associated with changing business practices to come
into compliance with Regulation ATS for New Rule 3b-16(a) Systems
that use certain technologies.
---------------------------------------------------------------------------
Furthermore, the Commission preliminarily believes that the
compliance costs associated with Regulation ATS would have different
effects on the competitive position of ATSs depending on their size. As
a result of the Proposed Rules, all New Rule 3b-16(a) Systems would be
subject to Rule 301(b)(2), Rule 301(b)(9) and Rule 301(b)(10), Rule
302, and Rule 303. As discussed above \405\ and in the Proposing
Release,\406\ most of the estimated compliance costs associated with
these rules would be fixed costs to those New Rule 3b-16(a) Systems
regardless of the amount of trading activity that takes place on them,
and thus, these compliance costs would represent a larger fraction of
revenue for a small (measured in trading volume) New Rule 3b-16(a)
System relative to that for a large New Rule 3b-16(a) System.
Furthermore, most of the estimated compliance costs associated with the
requirements of Form ATS-N under Rule 304, which all New Rule 3b-16(a)
Systems that trade NMS stocks or government securities would incur,
would be fixed costs.\407\ This could have an adverse impact on New
Rule 3b-16(a) Systems of small size in competing against larger ATSs,
which could act as a deterrent or a barrier to entry for potential New
Rule 3b-16(a) Systems or result in small New Rule 3b-16(a) Systems
exiting the market for trading services. However, if small New Rule 3b-
16(a) Systems engage in providing simpler services, these small New
Rule 3b-16(a) Systems are likely to incur lower compliance costs. The
Commission believes that these effects would apply to the market for
crypto asset securities in the same manner that they would to the
market for non-crypto asset securities.
---------------------------------------------------------------------------
\405\ See supra section VIII.C.2.a.i.
\406\ See Proposing Release at note 1165.
\407\ See supra section VIII.C.2.a.i and Proposing Release,
section VIII.C.2.a.i.
---------------------------------------------------------------------------
The Commission acknowledges the Proposed Rules could reduce
operational flexibility, which could, under certain circumstances, make
it more difficult to innovate or reduce the rate of the adoption of new
technologies. As in the Proposing Release, the Commission believes
that, to the extent the Proposed Rules force an entity that develops
new technologies to exit the market, it may be able to restructure
itself (rather than operate as an ATS) as a third-party vendor and
continue to provide certain innovative services, or otherwise sell its
technology to another ATS, which would mitigate to some extent any
adverse impact the Proposed Rules may have on the adoption of new
technologies in the market for crypto asset security trading services.
(c) Broker-Dealer Registration Requirements
In addition to the compliance costs associated with the
requirements of Regulation ATS, non-broker-dealer-operated New Rule 3b-
16(a) Systems without a broker-dealer affiliate would incur additional
compliance costs related to registering with the Commission as broker-
dealers, becoming members of an SRO, such as FINRA, and maintaining
broker-dealer registration and SRO membership. Furthermore, these non-
broker-dealer operators could incur costs associated with altering
business practices to come into compliance with the Proposed
Rules.\408\ To the extent that the costs associated with changing
business practices to come into compliance with the Proposed Rules is
significant enough to render non-broker-dealer operators of New Rule
3b-16(a) Systems unprofitable to stay in the business, these operators
of New Rule 3b-16(a) Systems would exit adversely impacting competition
in the market for crypto asset securities trading services.\409\
However, to the extent that the market for crypto asset securities
trading services is competitive and that a limited number of New Rule
3b-16(a) Systems exit the market, the adverse effect on overall
competition would be mitigated.
---------------------------------------------------------------------------
\408\ See supra section V.C.2.a.ii for discussion about the
costs associated with changing business practices to come into
compliance with the Proposed Rules.
\409\ The Commission believes that the costs associated with the
broker-dealer registration requirements could adversely affect the
rate of innovation. See supra sections V.C.3.a.i and V.C.3.a.i.c)
for discussion about the impact of the Proposed Rules on the rate of
innovation.
---------------------------------------------------------------------------
(d) Ineffectiveness Declaration
The proposed ability for the Commission to be able to declare a
Form ATS-N or Form ATS-N amendment ineffective could result in
compliance costs for New Rule 3b-16(a) Systems that trade NMS stocks
and may affect competition in the market for NMS stock trading
services. However, as discussed in the Proposing Release,\410\ based on
Commission staff's experience with NMS Stock ATSs that filed an initial
Form ATS-N, the Commission preliminarily believes this would be an
unlikely result. The Commission believes this unlikeliness would extend
to the market for crypto asset securities that are NMS stocks.
---------------------------------------------------------------------------
\410\ See Proposing Release at 15636 including notes 1180 and
1183.
---------------------------------------------------------------------------
(e) Fair Access
The Commission believes that applying the Fair Access Rule to New
Rule 3b-16(a) Systems could increase competition between market
participants in the markets for corporate debt securities, municipal
securities, NMS stocks, and equity securities that are not NMS stocks.
As discussed above, to the extent that there are market participants
currently excluded from trading on significant New Rule 3b-16(a)
Systems, applying the Fair Access Rule to New Rule 3b-16(a) Systems
could increase trading venue options available to these market
participants, which could lower their trading costs. This, in turn,
could increase competition among market participants trading on these
platforms, which could be significant sources of liquidity and
represent a significant portion of trading volume in their respective
markets. However, these competitive effects may be reduced to the
extent that some existing subscribers of trading venues that are
subject to the Fair Access Rule redirect their trading interest to
other trading venues not subject to the Fair Access Rule in order to
preserve some of the benefits they may receive from a trading venue
limiting access. If the Proposed Rules to apply certain aggregate
volume thresholds increase the number of smaller affiliate ATSs that
would be subject to the Fair Access Rule, it could also increase
competition among market participants, to the extent that certain
market participants are currently excluded from accessing these
platforms. The Commission believes that these effects on competition
would apply to New Rule 3b-16(a) Systems that trade crypto asset
securities in the same manner that they would to New Rule 3b-16(a)
Systems that trade non-crypto asset securities.
Additionally, as discussed in the Proposing Release, the Proposed
Rules to apply certain aggregate volume thresholds to the Fair Access
Rule could also harm competition among trading venues in the markets
for corporate debt, municipal securities, NMS stock and equity
securities that are not NMS
[[Page 29489]]
stocks if they cause a broker-dealer or affiliated broker-dealers that
operate multiple ATSs to restrict trading in one or more securities, or
shut down one or more of their smaller ATSs, in order to avoid
triggering the Fair Access volume threshold. However, because the
trading volume on these smaller ATSs would likely be absorbed and
redistributed amongst other ATSs or non-ATS venues, the Commission
believes that the overall effects on competition among trading venues
may not be significant. To the extent that the markets for trading
services are competitive, the Commission believes that such competitive
effects would be applicable to New 3b-16(a) Systems that trade crypto
asset securities that are corporate debt securities, municipal
securities, NMS stock, and equity securities that are not NMS stocks.
(f) Public Disclosure
As discussed in the Proposing Release,\411\ the public disclosure
of Form ATS-N would enhance the operational transparency of New 3b-
16(a) Systems that trade in NMS stocks, including crypto asset
securities that are NMS stocks. The enhancement in the operational
transparency of New Rule 3b-16(a) Systems would promote competition in
the markets for crypto asset securities trading services. The increase
in competition could result in lower venue fees, improve the efficiency
in customer trading interest or order handling procedures, and promote
innovation. To the extent that non-ATS venues compete with ATSs' order
flows, the increased operational transparency of ATSs could also
incentivize non-ATS trading venues to reduce their fees to compete with
ATSs. The Commission believes that these effects would apply to the
market for crypto asset securities trading services. However, because
New Rule 3b-16(a) Systems using smart contracts operate using code
which may be, at least in part, publicly viewable, it is possible that
the impacts of Form ATS-N disclosures on competition may be reduced,
for such systems. However, because this code is not disclosed in a form
that is standardized or readable to a layman, the Commission believes
that this reduction of impact may not be significant.
---------------------------------------------------------------------------
\411\ See Proposing Release at 15637.
---------------------------------------------------------------------------
As discussed in the Proposing Release,\412\ because the public
disclosure of Form ATS-N would make it easier for market participants
to compare the quality of trading services, such as innovative trading
functionalities, order handling procedures, and execution statistics,
market participants would be more likely to send their trading
interests or orders to ATSs, including New 3b-16(a) Systems, that offer
better trading services. This would promote greater competition in the
market for trading services and incentivize ATSs to innovate, including
in particular, technology related to trading services to improve the
quality of such services to attract more subscribers. The Commission
believes these effects on competition and innovation would apply to
ATSs trading in crypto asset securities that are NMS stocks in the same
manner that they do to ATSs that trade non-crypto asset securities.
---------------------------------------------------------------------------
\412\ See id.
---------------------------------------------------------------------------
As discussed in the Proposing Release,\413\ the public disclosure
of Form ATS-N would also result in market participants redirecting
their trading interest away from ATSs that offer lower quality trading
services compared to other ATSs, which could result in these ATSs
earning less revenue. If the loss in revenue causes these ATSs to
become unprofitable, they might choose to exit the market. The
Commission believes these effects would apply to ATSs trading in crypto
asset securities that are NMS stocks in the same manner that they do to
ATSs that trade non-crypto asset securities.
---------------------------------------------------------------------------
\413\ See id.
---------------------------------------------------------------------------
As discussed in the Proposing Release,\414\ the public disclosure
of previously nonpublic information regarding innovative operational
facets of a New Rule 3b-16(a) System that trades NMS stock could
adversely impact competition in the market for trading services and
also reduce the incentives for these trading venues to innovate. As in
the Proposing Release, the Commission believes that the risk of these
adverse effects occurring would be low, because the information
disclosed on Form ATS-N is not likely to include detailed enough
information regarding operational facets or innovations such that the
public disclosure would adversely affect the competitive position of
the disclosing ATS. To the extent that any crypto asset security is an
NMS stock, the Commission believes that these effects would apply as
described in the Proposing Release to market participants wishing to
trade such a security.
---------------------------------------------------------------------------
\414\ See id. at 15638.
---------------------------------------------------------------------------
As discussed in the Proposing Release,\415\ although the Commission
acknowledges that some NMS stock ATSs could restructure their
operations to be non-ATSs to avoid being subject to the public
disclosure of Form ATS-N, the risk of this occurring may be mitigated
because the proposed amendments to Rule 3b-16 may make it difficult for
an ATS, including one that trades crypto asset securities, to
restructure their operations to be non-ATSs.
---------------------------------------------------------------------------
\415\ See id.
---------------------------------------------------------------------------
ii. Regulation SCI
The Commission believes that the requirements imposed by Regulation
SCI may not have a significant adverse effect on competition in the
market for crypto asset security trading services, or on market
participants' trading costs in the market for crypto asset securities.
As discussed in the Proposing Release,\416\ the Commission believes
that the compliance costs imposed by Regulation SCI may not have a
significant adverse effect on competition among SCI ATSs, non-SCI ATSs,
and non-ATS venues in the NMS stock market due to mitigating factors.
If SCI ATSs pass on the compliance costs to their subscribers in the
form of higher fees, SCI ATSs would lose order flow or their
subscribers to other, non-SCI ATSs and non-ATS venues with lower fees.
Adverse competitive effects, however, would be mitigated because an SCI
ATS would likely have more robust systems, fewer disruptive systems
issues, and better up-time compared to non-SCI ATSs. Furthermore, any
adverse competitive effect may be minor if an SCI ATS is large and has
a more stable and established subscriber base than other ATSs and non-
ATS venues. The Commission expects these effects to apply to ATSs
trading in crypto asset securities that are NMS stocks in the same
manner.
---------------------------------------------------------------------------
\416\ See id.
---------------------------------------------------------------------------
As discussed in the Proposing Release,\417\ the compliance costs
associated with participating in business continuity and disaster
recovery plan testing would affect competition among subscribers of SCI
ATSs and also would raise barriers to entry for new subscribers.
Because some subscribers would incur compliance costs associated with
Rule 1004 and others would not, it would adversely impact the ability
for those subscribers of SCI ATSs to compete. The Commission expects
these effects to apply to ATSs trading in crypto asset securities that
are NMS stocks in the same manner that they apply to ATSs that trade
non-crypto asset securities, but as in the Proposing Release, the
Commission lacks sufficient information to estimate the extent of
impact on competition. If larger subscribers of SCI ATSs already
maintain connections to
[[Page 29490]]
backup facilities including for testing purposes, the adverse impact on
competition would be mitigated because the incremental compliance costs
associated with the business continuity and disaster recovery plan
testing requirements under Rule 1004 would be limited for those larger
subscribers. The Commission believes that, in the market for crypto
asset securities as in the market for non-crypto asset securities, new
subscribers are less likely to be designated immediately to participate
in business continuity and disaster recovery plan testing than are
existing larger subscribers because new subscribers might not initially
satisfy the ATS's designation standards as they establish their
businesses.
---------------------------------------------------------------------------
\417\ See id.
---------------------------------------------------------------------------
As discussed in the Proposing Release,\418\ it is difficult to
estimate the costs of Regulation SCI for third-party vendors that
operate SCI systems or indirect SCI systems on behalf of SCI ATSs. If
Regulation SCI imposes compliance costs on such vendors, the compliance
costs would affect the competition among third-party vendors in the
market for SCI systems or indirect SCI systems. If the costs associated
with Regulation SCI for third-party vendors outweigh the benefits of
continuing to operate SCI systems or indirect SCI systems on behalf of
SCI ATSs, these third-party vendors would exit the market for SCI
systems or indirect systems. In this respect, Regulation SCI would
adversely impact such vendors and reduce the ability for some third-
party vendors to compete in the market for SCI systems and indirect SCI
systems, with attendant costs to SCI ATSs. If this happens, SCI ATSs
would incur costs from having to find a new vendor, form a new business
relationship, and adapt their systems to those of the new vendor. SCI
ATSs might also elect to perform the relevant functions internally. If
the current third-party vendors are the most efficient means of
performing certain functions for SCI ATSs, and to the extent that any
third-party vendor exits the market, finding new vendors or performing
the functions internally would represent a reduction in efficiency for
SCI ATSs. The Commission expects these effects to apply to ATSs trading
in crypto asset securities that are NMS stocks, and their vendors, in
the same manner that they apply to ATSs that trade non-crypto asset
securities.
---------------------------------------------------------------------------
\418\ See id.
---------------------------------------------------------------------------
b. Efficiency and Capital Formation
As discussed in the Proposing Release,\419\ the Commission believes
the Proposed Rules could promote price efficiency and capital formation
by reducing trading costs and the potential for systems disruptions on
ATSs that capture a significant portion of trading volume. As discussed
in the Proposing Release,\420\ the proposed requirement for certain New
Rule 3b-16(a) Systems to publicly disclose Form ATS-N could help reduce
trading costs for market participants. Subjecting significant New Rule
3b-16(a) Systems to the Fair Access Rule could also help reduce market
participants' trading costs. A reduction in trading costs could, in
turn, reduce limits to arbitrage and help facilitate informed traders
impounding information into security prices, which could enhance price
efficiency. Extending Regulation SCI and Rule 301(b)(6) would help
improve systems up-time for ATSs and would also promote more robust
systems that directly support execution facilities, order matching, and
the dissemination of market data, which could also enhance price
efficiency. The Commission expects these effects to apply to ATSs that
trade crypto asset securities in the same manner that they apply to
ATSs that trade non-crypto asset securities.
---------------------------------------------------------------------------
\419\ See Proposing Release at 15639.
\420\ See id.
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Proposed Rules could also adversely affect the price efficiency of
crypto asset securities. It may no longer be possible for a New Rule
3b-16(a) System to facilitate trading crypto asset securities for
crypto assets that are not securities. To the extent that the markets
for crypto asset securities denominated in crypto assets that are not
securities reduce transaction costs, market participants would
experience higher transaction costs, reducing price efficiency, and
impeding the price discovery process.\421\ Also, if ATSs restrict
trading volume in certain securities to stay below the Fair Access
Rule, Regulation SCI, and Rule 301(b)(6) thresholds, it could adversely
affect price efficiency and capital formation. The Commission expects
these effects to apply to ATSs that trade crypto asset securities in
the same manner that they apply to ATSs that trade non-crypto asset
securities.
---------------------------------------------------------------------------
\421\ See supra section V.C.2.b for discussion about the costs
associated with the trading of crypto asset securities for crypto
assets that are not securities on Communication Protocol Systems.
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As discussed in the Proposing Release,\422\ enhanced price
efficiency could also promote capital formation. On the other hand, the
Commission believes that the proposed amendments of the Fair Access
Rule, Regulation SCI, and Rule 301(b)(6) could also adversely affect
price efficiency and capital formation if ATSs that are close to
satisfying the volume threshold limit trading over some period restrict
trading or cease operating to stay below the volume thresholds and
avoid being subject to these rules. To the extent that this keeps ATSs
from getting larger, it would increase fragmentation, and thus,
adversely affect price efficiency in those markets, harming capital
formation. The Commission expects these effects to apply to ATSs that
trade crypto asset securities in the same manner that they apply to
ATSs that trade non-crypto asset securities.
---------------------------------------------------------------------------
\422\ See id.
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D. Reasonable Alternatives
The Commission has considered several alternatives to the Proposed
Rules: (1) delay subjecting New Rule 3b-16(a) Systems that exclusively
trade crypto asset securities to the Proposed Rules; (2) subject only
New Rule 3b-16(a) Systems that trade government securities to the
Proposed Rules; (3) subject only New Rule 3b-16(a) Systems that trade
fixed income securities to the Proposed Rules; (4) exempt New Rule 3b-
16(a) Systems that use only non-firm trading interest from the Fair
Access Rule; (5) exempt New Rule 3b-16(a) Systems that use only non-
firm trading interest from Regulation SCI; (6) stipulate that systems
offering non-firm trading interest only meet the definition of an
exchange if they offer anonymous interactions; and (7) use a more
explicit and prescriptive approach in defining the type of non-firm
trading interest system that meets the definition of an exchange.
1. Delay Subjecting New Rule 3b-16(a) Systems That Exclusively Trade
Crypto Asset Securities to the Proposed Rules
As discussed above, the Commission received comment, and is
soliciting comment, on the application of the Proposed Rules to systems
that trade crypto asset securities. As an alternative, the Commission
could adopt the proposed changes to Rule 3b-16(a), but delay applying
the changes to New Rule 3b-16(a) Systems that trade crypto asset
securities.\423\
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\423\ Alternatively, a delay could be implemented for other
types of securities. See supra section III.E. As discussed above,
for purposes of adopting a different compliance date for New Rule
3b-16(a) Systems that trade crypto asset securities, crypto asset
securities could be defined as, for example, securities that are
also issued and/or transferred using distributed ledger or
blockchain technology, including, but not limited to, so-called
``virtual currencies,'' ``coins,'' and ``tokens,'' to the extent
they rely on cryptographic protocols. The Commission is soliciting
comment on the definition. See id.
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Importantly, this alternative of a delayed compliance period would
be
[[Page 29491]]
only with respect to the application of the new rules. Notwithstanding
inclusion of this alternative of providing a delayed compliance date
with respect to New Rule 3b-16(a) Systems that trade crypto asset
securities, the Commission emphasizes that operators of trading
systems, including those trading crypto asset securities, need to
evaluate whether they meet the criteria of existing Exchange Act Rule
3b-16(a), and thus must register as a national securities exchange or
operate pursuant to an exemption to such registration, or meet the
definition of a ``broker'' or ``dealer'' that is required to register
with the Commission and become a member of a self-regulatory
organization. In this regard, the Commission will continue to evaluate
whether currently operating systems are acting consistently with
federal securities laws and the rules thereunder.
Relative to the proposal, this alternative would result in delayed
benefits and costs because market participants that trade in crypto
asset securities using New Rule 3b-16(a) Systems would not accrue
benefits \424\ and costs \425\ discussed in sections V.C.1 and V.C.2 or
in the Proposing Release until the delayed compliance date. Similarly,
this alternative would result in delayed effects on efficiency,
competition, and capital formation discussed above.\426\
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\424\ Affected benefits would include delayed enhancements to
regulatory oversight and investor protection, delayed reductions of
trading costs, delayed improvements to execution quality, smaller
enhancements of price discovery and liquidity, and delayed benefits
from electronic filing requirements as described above. See supra
section V.C.1.
\425\ Affected costs would include delayed implementation costs,
delayed costs associated with broker-dealer requirements,
ineffectiveness declaration, the Fair Access Rule, Rule 301(b)(6),
and Regulation SCI, and delayed indirect costs as described above.
See supra section V.C.2.
\426\ See supra section V.C.3.
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This alternative could result in several additional effects. It may
be that New Rule 3b-16(a) Systems that trade in both crypto asset
securities and non-crypto asset securities would have the incentive to
separate crypto asset securities trading, which would be subject to the
delay. This could reduce efficiency. Relative to the proposal, New Rule
3b-16(a) Systems that trade exclusively in crypto asset securities
would enjoy a competitive advantage for a longer period of time over
New Rule 3b-16(a) Systems that trade both crypto asset securities and
securities that are not crypto assets due to delayed compliance costs.
Furthermore, relative to the proposal, to the extent that crypto asset
securities of any type of security may be considered substitutes for
non-crypto asset securities of the same type, and that platforms that
trade such crypto asset securities compete with those that trade their
non-crypto asset security counterparts, the platforms that trade crypto
asset securities would enjoy a competitive advantage over those that
trade non-crypto asset securities.
2. Subject Only New Rule 3b-16(a) Systems That Trade Government
Securities to the Proposed Rules
As an alternative, the Commission considered subjecting only New
Rule 3b-16(a) Systems that trade government securities to the Proposed
Rules. New Rule 3b-16(a) Systems play a significant role in the market
for government securities. One of the roles of these New Rule 3b-16(a)
Systems is to provide a means to communicate trading interest in the
dealer-to-customer market. The Commission understands that these
systems are a significant component of the dealer-to-customer segment
of government securities market and account for a significant portion
of the total trading volume in government securities.\427\
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\427\ See Proposing Release at 15601 and 15602.
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Under this alternative, New Rule 3b-16(a) Systems that trade
securities other than government securities would not be subject to the
Proposed Rules. Relative to the proposal, this alternative would result
in smaller benefits and costs as well as reduced effects on efficiency,
competition, and capital formation. Market participants that utilize
New Rule 3b-16(a) Systems to trade securities other than government
securities would not accrue benefits from the requirements of
Regulation ATS discussed in the Proposing Release. Under this
alternative, relative to the proposal, market participants trading in
securities other than government securities would not accrue the
benefits of the Proposed Rules including the enhancement in regulatory
oversight and investor protection, the reduction in trading costs, and
the enhancement of price discovery and liquidity.\428\ In addition, to
the extent that ATSs and New Rule 3b-16(a) Systems compete for order
flows in securities markets other than government securities, ATSs
would not be able to compete against New Rule 3b-16(a) Systems on a
more equal regulatory basis, which would adversely impact competition
relative to the proposal. On the other hand, relative to the proposal,
the Commission believes that reduced regulatory requirements would help
maintain operational flexibility, which in turn, would help promote
innovations for New Rule 3b-16(a) Systems that trade securities other
than government securities. Furthermore, the Commission believes that
lower compliance costs would help promote competition in the market for
trading services with respect to non-government securities relative to
the proposal.
---------------------------------------------------------------------------
\428\ See supra section V.C.1 for discussion about the benefits
of the Proposed Rules.
---------------------------------------------------------------------------
3. Subject Only New Rule 3b-16(a) Systems That Trade Fixed Income
Securities to the Proposed Rules
As an alternative, the Commission could consider subjecting only
New Rule 3b-16(a) Systems that trade fixed income securities that are
not crypto asset securities \429\ to the Proposed Rules. New Rule 3b-
16(a) Systems play a significant role by providing means to communicate
trading interest in the dealer-to-customer market in fixed income
securities trading. The Commission understands that these New Rule 3b-
16(a) Systems account for a significant portion of the total trading
volume in fixed income securities.\430\
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\429\ Fixed income securities would include government
securities, corporate debt securities, municipal securities, and
asset-backed securities as discussed in the Proposing Release.
\430\ See Proposing Release at 15601, 15602, 15605, 15606,
15607, and 15609.
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Under this alternative, New Rule 3b-16(a) Systems that trade
securities other than fixed income securities would not be subject to
the Proposed Rules. Relative to the proposal, this alternative would
result in smaller benefits and costs as well as reduced effects on
efficiency, competition, and capital formation. Market participants
that utilize New Rule 3b-16(a) Systems to trade securities other than
fixed income securities would not accrue benefits from the requirements
of Regulation ATS discussed in the Proposing Release. For example,
market participants that trade crypto asset securities via New Rule 3b-
16(a) Systems would not benefit from investor protection provisions of
Regulation ATS. On the other hand, relative to the proposal, the
Commission believes that reduced regulatory requirements would help
maintain operational flexibility, which in turn, would help promote
innovations for New Rule 3b-16(a) Systems that trade securities other
than fixed income securities. Furthermore, relative to the proposal,
the Commission believes that lower compliance costs would help promote
competition in the market for trading services with respect to non-
fixed income securities.
[[Page 29492]]
4. Exempt New Rule 3b-16(a) Systems That Use Only Non-Firm Trading
Interest From the Fair Access Rule
As an alternative, the Commission considered exempting New Rule 3b-
16(a) Systems that only use non-firm trading interests from the Fair
Access Rule of Regulation ATS. Relative to the proposal, significant
New Rule 3b-16(a) Systems that only use non-firm trading interests
would not incur the costs associated with the Fair Access Rule, which
may potentially include significant costs for altering business
practices to comply with the rule. On the other hand, to the extent
that there are market participants who are unreasonably denied access
to significant New Rule 3b-16(a) Systems that only use non-firm trading
interests, the execution quality for these market participants would be
worse relative to the proposal.
5. Exempt New Rule 3b-16(a) Systems That Use Only Non-Firm Trading
Interest From Regulation SCI
As an alternative, the Commission considered exempting New Rule 3b-
16(a) Systems that only use non-firm trading interests from Regulation
SCI. The requirements of Regulation SCI would result in significant
costs for significant New Rule 3b-16(a) Systems. Relative to the
proposal, significant New Rule 3b-16(a) Systems that only use non-firm
trading interests would not incur the costs associated with Regulation
SCI, which could include significant costs for establishing and
maintaining geographically diverse backup facilities. This could
promote competition by lowering the barriers to entry and reducing the
incidences of exit relative to the proposal. On the other hand,
relative to the proposal, the frequency and severity of systems issues
could be higher and the duration of systems issues could be longer,
which would harm price discovery and adversely impact trading costs of
market participants.
6. Stipulate That Systems Offering Non-Firm Trading Interest Only Meet
the Definition of an Exchange if They Offer Anonymous Interactions
As an alternative, the Commission considered excluding systems that
only use non-firm trading interests and do not offer anonymous
protocols \431\ from the definition of an exchange. Under this
alternative, many significant fully disclosed dealer-to-customer RFQ
platforms that trade fixed income securities including government
securities, corporate debt securities, and municipal securities would
not meet the definition of an exchange, and thus, would not incur the
costs associated with the Proposed Rules. Furthermore, lower costs
would help promote innovation in the market for securities trading
services relative to the proposal. However, because this alternative
would exclude many significant trading systems that would meet the
definition of exchange as proposed to be amended that trade fixed
income securities, the benefits of the Proposed Rules would be
significantly reduced relative to the proposal.
---------------------------------------------------------------------------
\431\ An anonymous protocol in this context means that
counterparties stay anonymous until the terms (i.e., price and
quality) of the trade is fixed between the two counterparties
engaged in a transaction.
---------------------------------------------------------------------------
7. Use a More Explicit and Prescriptive Approach in Defining the Type
of Non-Firm Trading Interest System That Meets the Definition of an
Exchange
As an alternative, the Commission considered a more explicit and
prescriptive approach in defining an exchange by providing a list of
specific types of systems that meet the definition of an exchange (or,
by providing a list of specific types of systems that do not meet the
definition of an exchange). Relative to the proposal, this approach
would reduce uncertainty and the costs associated with the proposed
activity-based definition of an exchange. A more explicit and
prescriptive definition of an exchange could reduce legal costs
associated with complying with the proposed activity-based definition
of an exchange.\432\ Furthermore, the reduction in such costs could
help promote innovation in the market for securities trading services.
On the other hand, a more explicit and prescriptive definition of an
exchange could make it easier for a trading venue to modify its systems
to operate as a non-exchange, which would not be subject to the
Proposed Rules. Relative to the proposal, this would result in lower
benefits. For example, market participants that utilize such trading
venues would not benefit from investor protection provisions of
Regulation ATS.
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\432\ See also supra section V.C.2.b.ii for discussion about the
costs associated with complying with the proposed functional-test-
based definition of an exchange.
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E. Request for Comments
44. In the Proposing Release, the Commission proposed to replace
the term ``uses'' with the term ``makes available'' before
``established, non-discretionary methods'' in Rule 3b-16(a)(2) because
the Commission proposed to include as an established, non-discretionary
method communication protocols under which buyers and sellers can
interact and agree to the terms of a trade.\433\ Would this proposed
change have costs for developers of technology that are not reflected
in the economic analysis? Would adopting alternative language (such as
``Uses established, non-discretionary methods (whether by providing,
directly or indirectly, a trading facility . . .),'' ``[E]stablishes
non-discretionary methods (whether by providing, directly or
indirectly, a trading facility or . . .)'') result in different costs
than the proposed language? \434\
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\433\ See Proposing at 15506. See also supra section III.B.
\434\ See supra Requests for Comment #10-11.
---------------------------------------------------------------------------
45. Do commenters agree with the Commission's characterization of
platforms in the market for crypto assets securities? Please provide
any relevant details that you believe are missing from the Commission's
description.
46. Please provide any information on the number and type of venues
that permit trading crypto asset securities for fiat currency.
47. Do commenters agree with the Commission's characterization of
the technology used by systems in the market for crypto assets
securities? Please provide any relevant details that you believe are
missing from the Commission's description.
48. Do commenters agree with the Commission's characterization of
New Rule 3b-16(a) Systems that trade crypto asset securities? Please
provide any relevant details that you believe are missing from the
Commission's description.
49. Please provide any data on crypto asset securities trading
volume and trading volume share of New Rule 3b-16(a) Systems.
50. Please provide any information on the types of protocols used
by New Rule 3b-16(a) Systems that trade crypto assets securities.
51. Do commenters agree with the Commission's characterization of
other methods (other than platforms) of trading in the market for
crypto assets securities? Please provide any relevant details that you
believe are missing from the Commission's description.
52. Please provide any information on the current market practice
for bilateral voice trading and electronic chat messaging in trading
crypto assets securities.
53. Please provide any information on the role of bilateral voice
trading in the market for crypto assets securities.
54. Do commenters agree with the Commission's characterization of
crypto
[[Page 29493]]
asset securities trading services? Please provide any relevant details
that you believe are missing from the Commission's description.
55. Would the Proposed Rules enhance regulatory oversight and
investor protection in the market for crypto asset securities? Would
requiring New Rule 3b-16(a) Systems that trade crypto asset securities
to register as broker-dealers help lead to these benefits? Would the
Proposed Rules lead to improvements in the safeguarding of confidential
information in the market for crypto asset securities?
56. Do commenters agree that the Proposed Rules would reduce
trading costs and improve execution quality for market participants
that use New Rule 3b-16(a) Systems? Do commenters agree that Regulation
SCI would improve the resiliency of New Rule 3b-16(a) Systems in the
applicable securities markets? Do commenters agree that Rule 301(b)(6)
would improve the resiliency of such systems in the applicable
securities markets?
57. Are there any other benefits of subjecting to the exchange
regulatory framework a New Rule 3b-16(a) System which uses certain
technologies that allow them to run portions of their operations using
smart contracts deployed on an underlying blockchain? Please explain.
58. Do commenters agree with the Commission's assessment of the
entities that would incur costs in the crypto asset security market as
a result of the Proposed Rules? If not, please provide examples of
additional entities that would incur costs.
59. Do commenters agree with the Commission's assessment of the
implementation costs estimated in the Reopening Release? If not, please
provide as many quantitative estimates to support your position on
costs as possible.
60. Please provide any insights or data on the costs associated
with the proposed broker-dealer requirements for New Rule 3b-16(a)
Systems that are operated by non-broker-dealers.
61. The Commission solicits comment on any circumstances in which
actors within a group of persons, which can include, for example, the
provider(s) of the DeFi application or user interface, developers of
AMMs or other DLT code, DAO, validators or miners, and issuers or
holders of governance or other tokens, may incur costs in connection
with their activities that may constitute, maintain, or provide a
market place or facilities for bringing together buyers and sellers of
securities under Exchange Rule 3b-16, as proposed to be amended.
62. Do commenters agree with the Commission's assessment of the
costs for systems that use certain technology and trade crypto asset
securities as described in section V.C.2.c? Please explain.
63. Do commenters agree with the Commission's assessment that the
compliance costs associated with bringing a New Rule 3b-16(a) System
that uses certain technologies that allow them to run portions of their
operations using smart contracts deployed on an underlying blockchain
into compliance may be greater than those for other platforms that
trade crypto asset securities? If so, which costs do commenters expect
to be greater, and why? Please explain and share any relevant data.
64. Do commenters agree with the Commission's assessment of the
costs that may be associated with bringing a New Rule 3b-16(a) System
that uses certain technologies that allow it to run portions of its
operations using smart contracts deployed on an underlying blockchain
into compliance? Do commenters believe that such costs could be
significant? Please explain and share any relevant data.
65. Do commenters agree with the Commission's assessment of the
initial compliance costs for New Rule 3b-16(a) Systems that use certain
technologies that allow them to run portions of their operations using
smart contracts deployed on an underlying blockchain? Please explain.
66. Do commenters agree with the Commission's assessment of the
costs that miners or validators may bear? Please explain and share any
relevant data.
67. Please provide examples of automation of New Rule 3b-16(a)
Systems by means of immutable smart contracts.
68. Do commenters agree with the Commission's assessment of the
impact of the Proposed Rules on efficiency, competition and capital
formation? Do commenters agree that the Proposed Rules would allow for
competition among trading systems on a more equal basis? Do commenters
agree with the Commission's assessment as to the risks of increasing
barriers to entry and causing current trading systems to exit the
market? Please explain.
69. To what extent would the Proposed Rules increase the barriers
to entry for new trading venues or cause some existing trading venues
to exit the market? How would these effects vary based on the size and/
or type of trading venue and the securities market in which it
operates? Please explain.
70. How would the Proposed Rules affect innovation? Please explain.
Which provisions of the Proposed Rules would affect innovation the most
and how? Please explain.
71. To what extent would the Proposed Rules cause existing trading
venues to cease operating in the United States, if at all? If the
Proposed Rules would have any such effect, which provisions of the
Proposed Rules would be most responsible for this effect, and how?
Please explain and share any relevant data.
72. Do commenters agree with the Commission's assessment of the
effects of an alternative to delay subjecting New Rule 3b-16(a) Systems
that exclusively trade crypto asset securities to the Proposed Rules?
73. Do commenters agree with the Commission's assessment of the
effects of an alternative to subject only New Rule 3b-16(a) Systems
that trade government securities to the Proposed Rules?
74. Do commenters agree with the Commission's assessment of the
effects of an alternative to subject only New Rule 3b-16(a) Systems
that trade fixed income securities to the Proposed Rules?
75. For purposes of determining compliance with the Fair Access
Rule and Regulation SCI, an ATS must determine its trading volume to
assess whether the ATS is subject to these rules. Does an ATS have the
ability to obtain the necessary information to calculate thresholds to
determine if the ATS is subject to Regulation SCI and Regulation ATS?
Why or why not?
By the Commission.
Dated: April 14, 2023.
J. Matthew DeLesDernier,
Deputy Secretary.
[FR Doc. 2023-08544 Filed 5-4-23; 8:45 am]
BILLING CODE 8011-01-P
