Virtual Hearing - Game Stopped? Who Wins and Loses When Short Sellers, Social... (EventID=112590)

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On Thursday, May 6, 2021, at 12:00 p.m. (ET) full Committee Chairwoman Waters and Ranking Member McHenry will host a virtual hearing entitled, “Game Stopped? Who Wins and Loses When Short Sellers, Social Media, and Retail Investors Collide, Part III."

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Witnesses for this one-panel hearing will be:

• Honorable Gary Gensler, Chairman, U.S. Securities and Exchange Commission

• Michael Bodson, President and Chief Executive Officer, the Depository Trust & Clearing Corporation

• Robert Cook, President and Chief Executive Officer, Financial Industry Regulatory Authority, Inc
Overview

On February 18, 2021 and March 17, 2021, the House Financial Services Committee held hearings to examine the January 2021 market volatility stemming from a short squeeze on stocks, including GameStop, AMC, KOSS, and others. More specifically, retail investors on social media site Reddit’s “WallStreetBets” subchannel (“subreddit”) collectively induced a short squeeze in stocks they identified as being heavily shorted by hedge funds. WallStreetBets users drove stock prices up, forcing short sellers, who bet the stock price would go down, to purchase shares at an increased price. On January 27, 2021, GameStop’s stock, for example, closed at $347.51, up from just $3.84 approximately six months prior. Months after the short squeeze, GameStop and its executives have seemingly benefited from the short squeeze. For instance, several departing GameStop executives will, reportedly, leave the company with stock that, as of late April, was worth approximately $290 million. In the same month, the company completed an at-the-market offering, selling 3.5 million GameStop shares for over $550 million in gross proceeds.

During the first hearing, testimony was provided by parties that were directly involved in the January market event. That testimony raised several critical questions regarding the conflicts of interest between payment for order flow and best execution; the sufficiency of short sale disclosures; clearing firm financial requirements and broker-dealer risk management; accelerated settlement; the market dominance of certain participants; gamification of retail investing; the growing impact of social media and technology on America’s capital markets; and whether technology has outpaced regulation in a manner that places investors and the market at risk. During the second hearing, an industry participant, an academic, and investor advocates testified regarding various approaches Congress could consider to these market structure issues. During this third hearing, regulators will testify on these same issues within the context of the existing regulatory framework and discuss areas of potential regulatory and legislative changes.

Payment for Order Flow and Best Execution

Payment for order flow (PFOF), essentially, refers to third parties paying brokerages in exchange for brokerages routing customers’ orders to the third parties for execution. In December 2000, the U.S. Securities and Exchange Commission (SEC) conducted a “Special Study: Payment for Order Flow and Internalization in the Options Markets” which concluded, in pertinent part, that “payment for order flow has had an impact on order routing decisions.” The SEC also found that firms with policies to accept PFOF tended to direct orders to specialists who paid PFOF. Firms with policies not to accept PFOF directed orders to specialists who paid PFOF less frequently. Still, twenty-one years after this study, PFOF continues to adversely affect firms’ order routing decisions and, in some cases, PFOF has cost retail customers millions of dollars in inferior trade prices.

The SEC’s regulatory approach to PFOF has largely involved disclosure requirements aimed at addressing the potential conflicts of interest that PFOF may pose for broker-dealers. Critically, in addition to those disclosure requirements, as mentioned above, retail broker-dealers are also required to get the “best execution” for their customers. This means that if a retail brokerdealer routes customer orders to a market maker, retail broker-dealers such as Robinhood have to make sure the market maker will execute the customer’s order on the most favorable terms reasonably available in the market. The retail broker-dealer may not, for instance, route an order based solely on which market maker will offer the most incentives to the broker for order flow. Nonetheless, there is a conflict between a retail broker-dealer’s receipt of PFOF, and its best execution obligations. Retail broker-dealers may benefit from submitting a customer’s order to the...

Hearing page: https://financialservices.house.gov/calendar/eventsingle.aspx?EventID=407748

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