Enhancing investors' role in the market

Arthur Levitt

THE PAST almost eight years, the greatest part of my job has been talking with America's investors, listening to their concerns, answering their questions, discussing their ideas for a better marketplace.

While listening closely to the voice of the US' investors has been my great privilege, it has also been an enduring reminder of a simple truth: Markets exist by the grace of investors.

At the SEC, it is the mandate to craft a marketplace that is freer, fairer, and above all else, better serves the interests of investors. By garnering the benefits of technology, removing longstanding impediments to competition, and educating and empowering investors, we allow the forces of competition to shape the kind of markets the public deserves -- markets whose hallmarks are efficiency, integrity, and fairness.

At the most basic level, investors today commit capital because they have faith in the quality and integrity of US markets. The dynamism of the market system depends entirely on integrity, professionalism, and the public confidence they inspire.

Now, some might ask, ``Does it really matter if the numbers in a prospectus are just slightly off, or if an investor receives a stock price that is only a little bit worse than the best market price?'' The answer is simple. If investors lose faith in the integrity of the markets' prices, if they believe that they are not receiving high-quality information, or that their interests are being placed secondary for any reason whatsoever, they will go elsewhere.

Maintaining and bolstering public confidence in the US markets begins with educating the investors themselves. This, in turn, drives greater competition as market participants must increasingly compete on the basis of value. Ultimately, this creates an even higher standard for the market, and with it, a renewed public trust in the market's quality and integrity.

Be most educated investors

What is more, today's investors have the opportunity to be the most educated consumers in the history of the free market. Consider what is at the fingertips of today's retail investors: Access to online trading and web pages devoted solely to financial news; access to stock quotes and pricing information; access to corporate filings and financial disclosure.

And it is never been clearer that a new breed of investors -- more informed, more inquisitive, and more in touch with financial activity than ever before -- is emerging from the Information Age.

Talking to investors in Atlanta, questions were fielded on loan-loss reserves, payment for order flow, and the impact of Nasdaq's proposed SuperMontage. That would have been hardly imaginable just a few years ago.

In increasing numbers, investors are directly involved in managing their assets, researching their investments, and making their own important financial decisions. More than just the end customers, they are now an integral part of the process of buying and selling securities. In many respects, they have injected themselves into the traditional role of the middleman: Developing investment strategies, analysing trends, considering new opportunities. And consider how today's more informed consumer has affected our marketplace: Lower trading costs, greater transparency, and more efficient pricing information.

Executing your order

To garner even greater benefits from the power of informed investors, the Commission recently adopted rules that will require greater disclosure by markets and brokers of how they execute their customers' orders. Now, order execution is not something retail investors have been focussed on, or have even fully understood, in the past. But today, more and more investors want to know how and where their trades are executed, and whether they have received the best possible price. They are coming to understand quickly what professional traders have long known -- that execution quality matters.

To those who think the concept of execution quality sounds merely academic, consider this: If your order is executed just a nickel away from the best price available, the difference could end up costing four or five times the commission that many on-line brokers advertise today. And until recently, this fact has been lost on many investors. While execution quality takes some effort to consider, it is more than worth it for most investors.

Expect best price

Investors expect -- and have a right to expect -- that they will receive the best price available in any market centre of the national market system. In this vein, the execution quality disclosure rules marshal the most powerful force in the market -- the relentless demands of informed investors -- to drive the most efficient order-routing patterns and to stimulate market centre competition based on superior executions.

In the past, some major brokerage firms have been frustrated in their efforts to get information from the markets about execution quality, while some personal finance journalists, trying to report on execution quality have been shut out by certain markets. In an era of unprecedented access and information, how can it be that many investors today simply do not know what happens to their orders after they click ``Submit''?

The execution quality disclosure rules will function on two levels. First, market centres -- that is, traditional exchanges, electronic markets, and dealers -- disclose to the public, on a monthly basis, the critical components of execution quality, such as the prices at which orders were executed, the speed of executions, and fill rates for limit orders. Second, brokers report which market centres they sent orders to, as well as any payment for order flow arrangements they have with the market.

The incentives created by this regime will serve investors well -- putting even more information in the hands of the investing public. Academics can publish comparative analyses of execution quality achieved by market centres, institutional investors can hire consultants to analyse market centre reports, and the financial and consumer press can offer side-by-side comparisons of, for example, speed and price improvement rates. Best of all, competitors can scrutinise each other's reports, and compete on the basis of quality and value.

Markets and public interest

It is this last point -- the notion of an enduring legacy -- that I keep coming back to when I think of how best to capture the idea of safeguarding the preeminence of US markets. Like preserving a family business or a time-honoured institution, you tend to take a much longer view on things, to stay more focussed on building something that will endure, to consider how your decisions and actions will affect the future, yourself or your children, years, even decades, down the road.

We should approach the US markets in much the same way. Too often, there is the temptation to make decisions or to follow a course that promises short-term profits or fixes, but at the expense of long-term gains or solutions; a tendency to forget our ties to what came before, to differentiate the fleeting from the timeless, to ignore our duty to what lies ahead. Instead, as we grapple with the profound and far reaching changes sweeping our markets, what must serve as both our compass and our guide is an unwavering commitment to the public interest.

For those market participants who are adding real value, informed investors are good news, indeed. By rewarding the firms that serve them well, informed investors drive markets to become, and remain, the most innovative, technology-smart, and investor-focussed markets in the world.

(Source: www.sec.gov)