Securities and Exchange Commission Historical Society

Transformation & Regulation: Equities Market Structure, 1934 to 2018

Emergence of the National Market, 2003 - 2018

Reevaluating the National Market System

In August 2009, Senator Ted Kaufman asked the SEC to conduct a regulatory review. “High frequency trading was not a problem in itself,” Kaufman recalled later, “it was part of a bigger problem, which was the change in the structure of the markets.” 55 Four years on from Reg NMS, the national market system raised many questions. There were no clear changes in answers to the causes and effects of the changes in the markets, and indeed whether the changes were a problem or not. Nor was there a great sense of urgency to examine these issues. The SEC took some initiative, however, first by creating in September 2009 a Division of Economic Research and Analysis (DERA)—in essence an internal “think tank” capable of high level data analytics. In early 2010, the SEC issued its Market Structure Concept Release, an effort, recalled former Acting Director of the Division of Trading and Markets John Ramsay, to “take stock of where developments were moving in the equities markets.” 56

The concept release sought industry feedback on what should be done about the rise of high frequency trading and the appearance of dark pools. It also raised a particularly persistent question about protecting “the top of the book.” Reg NMS only protected the best price at the top of the order book, even if the rest of the prices in a market were inferior to another’s. SEC Chief Economist Chester Spatt was particularly concerned about this inconsistency and suggested, in the concept release, that it might be possible to protect all the way down the book. Respondents pushed back on that idea, which had also been roundly rejected during the NMS rulemaking, but otherwise the concept release elicited much less discussion than had been hoped for or expected.

Beginning at about 2:45 p.m. on May 6, the Dow Jones Industrial Average dropped 600 points in 5 minutes. By 3:07 p.m. the market had recovered, although it finished down just over 200 points for the day. But for a while, about $1 trillion in market value had evaporated. Explanations abounded, from high-frequency trading and market fragmentation to manual computer mistakes (so-called “fat finger” errors). Although there was no good explanation for what happened, a descriptive name appeared almost immediately.

By then, most of the generalized concern about the national market system had crystallized around one practice known as “flashing,” which was yet another way to take advantage of high speed trading. The process began when a market maker did not have a security available at a particular asking price. In that case he or she could “flash” the order to a limited number of market participants who had the technological ability to view the order a fraction of a second before the broader market could see it and opt to make the sale. Since flash trading involved market information that was technically non-public (for the milliseconds in which flash orders could only be seen by certain participants) the public was surprised to learn that it had been allowed by the SEC in an exception to Rule 602 of Reg NMS. In July 2009, New York Senator Charles Schumer gave voice to this general suspicion when he formally complained to SEC about flash trading. On September 18, 2009, the Securities and Exchange Commission voted unanimously to propose an amendment to Rule 602 of Regulation NMS that would eliminate the current exception for the use of flash orders.

Nevertheless, the 15-minute crisis, which to all appearances revolved around the new, incredible transaction speeds was promptly dubbed the “Flash Crash.” The SEC and the Commodity Futures Trading Commission issued a lengthy report in September 2010. That document identified a futures algorithm as the culprit and further charged that high speed electronic trading did nothing to “make” markets—instead, high frequency traders followed the trend by withdrawing liquidity as the market dropped. The only other thing it could say for sure was that “under stressed market conditions, the automated execution of a large sell order can trigger extreme price movements, especially if the automated execution algorithm does not take prices into account.” 57 The SEC therefore, had an agenda: devise mechanisms to counter these extreme movements.

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(55) August 29, 2012 Interview with Edward E. “Ted” Kaufman, 38.

(56) June 7, 2017 Interview with John Ramsay, 36.

(57) September 30, 2010, “Findings Regarding The Market Events of May 6, 2010 Report of the Staffs of the CFTC and SEC to the Joint Advisory Committee On Emerging Regulatory Issues” at, 6.

Related Museum Resources


May 18, 2010
image pdf (Government Records)
May 20, 2010
image pdf (Government Records)

Oral Histories

29 August 2012

Edward E. "Ted" Kaufman

07 June 2017

John Ramsay

04 May 2017

Chester Spatt

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