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SEC trading changes will likely ‘benefit the biggest firms,’ analyst says

JMP Securities Director of Financial Technology Research Devin Ryan joins Yahoo Finance Live to discuss the expectations for SEC Chairman Gary Gensler’s proposal on Wednesday, stock reactions, and the outlook for firms like Robinhood and Schwab.

Video Transcript


BRIAN CHEUNG: Securities and Exchange Commission Chairman Gary Gensler expected to speak today with anticipation that he could propose changes to the way that your stock orders are carried out reporting from "The Wall Street Journal" yesterday suggesting that the SEC will require wholesalers to compete amongst each other on orders sent to them by brokerages like Robinhood. But how does all this affect the bottom line for the brokerages that retail traders are familiar with?

Let's bring in Devin Ryan, director of Financial Technology Research at JMP Securities, a Citizens company. Devin, great to have you on the program this morning. I know that you watch the stocks that are kind of linked to the brokerage industry. How important do you think the changes are as originally reported to the industry when it comes to the bottom line?

DEVIN RYAN: Hey, Brian, great to be here as always. So, you know, first off, what I would say is that payment for a flow is another topic that I think is getting a lot of attention here over the last few days with potential proposed changes. And honestly, we need to see more details to have a more detailed view here. But anything that's going to drive more transparency in the industry and better execution in the industry I think should be applauded.

But what I would also say is that there's been a lot of initiatives taken even over the past couple of years that are driving in that direction, whether it be on the transparency side, enhanced disclosures on 606 reports which is where brokerages share the market-making data that of the partners that they work with on that front or on best execution where there's been a record level of price improvement where retail investors are getting even better prices on their execution.

And so I think we need to be careful what we wish for. Market structure is really complicated. And if you change one very small piece of it, it can have ripples through the entire system. And what we've been writing, really, over the past couple of years is that if you make a big change here, that's going to benefit the biggest firm.

So I think perversely, everyone thinks that you change payment forward flow or how trades are executed. And that's really bad for firms like Robinhood or Schwab or some of the others. In reality, what that will likely do is push them towards internalizing their own trades.

So the scale players have enough flow where they can execute those orders themselves if they have their own market-making capabilities. Some firms are already doing that like Fidelity. What it will do is significantly hurt the small brokerages that are trying to scale and also deter new firms from coming in and try to disrupt the existing system. So I think it will be interesting to see where we go here.

We don't think that payment for order flow will be dramatically affected because I think the SEC understands that making a big change there could have some pretty negative ripples through. But we do think that anything that comes out of this that is related to more transparency, which I think would help investors feel more confident that the markets are fair or even better execution if there's ways to do that, we think that could be a positive for the overall industry. And I think people would be supportive of it.

AKIKO FUJITA: Yeah, Devin, let me follow up on that because everything we know so far is based on reports. We haven't heard from Gary Gensler himself just yet. And yet, yesterday, we saw Robinhood down well over 5%. I mean, you've just made the case that maybe that was a bit of an overreaction. But how do you think investors should be looking at these changes in the context of names like Robinhood?

DEVIN RYAN: Sure. Well, yeah, the market almost always overreacts. Payment for order flow in the headlines is not a new thing. And if you can go back over the last five years, every time it comes up, you tend to see negative reactions in stocks that are highly tied to trading.

So it's not surprising. And it's also a very complicated, nuance topic where people again immediately react this is a big negative without thinking through that there's other remedies that these companies can take. In reality, there's value to their customer base that they have. And all of these firms, whether it be the market makers or the brokerage firms or the exchanges, they have to make money in some way.

And I would argue that the retail investor has never had to think about the direct and indirect cost of trading a better opportunity in the market than they do today. Prices overall, direct and indirect, are probably down 75% if you think about the cost and the friction in trading just over the past couple of years.

So yeah, I do think that when the dust settles here, it'll be OK for those firms. But we've seen this many times where market doesn't like uncertainty. And right now, there's some uncertainty because we don't know exactly what the proposals entail and how they'll be executed.

The other point is that to the extent there is a negative normal kind of initial reaction here, if there are remedies for firms like Robinhood or Schwab that ultimately could be positive, it'll still take time to move those forward. And I think that's another potential risk in the near term.

AKIKO FUJITA: OK, well, I'll be watching for those specifics out of the SEC. Devin Ryan is always appreciate your time. Director of Financial Technology Research at JMP Securities Citizens Company.