brokers in the CAT analysis that utilize that clearing broker).

    CAT data analysis indicates that about 80% of the share volume and
about 74% of the dollar volume of individual investor marketable orders
that were routed to wholesalers and executed comes from PFOF
brokers.\403\ Data from Table 4 indicates that, while retail brokers
who accept PFOF from wholesalers tend to send more of their orders to
those wholesalers, wholesalers even dominate the market access services
for non-PFOF brokers, though non-PFOF brokers route a significantly
lower fraction (i.e., 75.2% to 76%) of their market orders to
wholesalers, compared to 99.7% to 99.8% of market orders for PFOF
brokers. Moreover, non-PFOF brokers route 24.1% to 24.8% of their
market orders to other non-exchange market centers, e.g., ATSs, while
PFOF brokers route less than 1% of their market orders to these market
centers. However, regardless of whether the retail broker accepts PFOF,
the order type, or the S&P500 index inclusion of the stock,\404\ Table
3 shows that retail brokers route over 87% of their customer orders to
wholesalers.
---------------------------------------------------------------------------

    \403\ See infra Table 15.
    \404\ Rule 606 reports require that broker-dealers separate
their disclosure information for S&P 500 stocks, non-S&P 500 stocks,
and options.
---------------------------------------------------------------------------

    This result suggests that, while PFOF may be a factor in retail
brokers' routing decisions, wholesalers likely also compare favorably
to other market access (including retail brokers pursuing their own
market access) along other dimensions. The routing behavior in Table 4
may, in part, reflect a tendency of non-PFOF brokers to route customer
orders to market centers such as their own ATSs for mid-point execution
and the lack of an affiliated ATS for PFOF brokers. However, even
broker-dealers with their own ATSs do not route the majority of their
individual investor order flow to those ATSs and typically do not
internalize order flow. Further, retail brokers with membership on
multiple exchanges primarily route their marketable orders to
wholesalers. These results could point to a lower marginal costs of
routing to wholesalers relative to other routing and execution
alternatives. Table 5 shows that wholesalers appear to compare
favorably to exchanges in the execution quality of orders routed to
them, suggesting that execution quality could be another key factor in
the decision of retail brokers to route to wholesalers.\405\ In
particular, marketable orders routed to wholesalers appear to have
higher fill rates, lower effective spreads, and lower E/Q ratios.\406\
These orders are also more likely to receive price improvement and,
conditional on receiving price improvement, receive greater price
improvement when routed to wholesalers as compared to exchanges.
---------------------------------------------------------------------------

    \405\ See infra Table 5 and corresponding discussions.
    \406\ The E/Q ratio is the ratio of a stock's effective spread
over quoted spread. A lower value indicates smaller effective
spreads (i.e., trading costs) as a percentage of the quoted spread.
---------------------------------------------------------------------------

    In addition, wholesalers may provide additional valuable services
to retail brokers that route order flow to them. Based on staff
experience, the Commission understands that wholesalers are more
responsive to retail brokers that provide them with order flow,
including, for example, following customer instructions not to
internalize particular orders. More broadly, wholesalers appear to
provide retail brokers with a high degree of consistency with regard to
execution quality. More specifically, wholesalers receive order flow
from retail brokers

that contains orders that vary with regard to quoted spreads and
adverse selection risk. While wholesalers receive order flow from
retail brokers that contains variation in quoted spreads and adverse
selection risk, wholesalers could target an average level of price
improvement across this heterogeneous order flow, resulting in a
relatively consistent degree of execution quality.
    When wholesalers do not internalize an order, they obtain an
execution from another market center by either routing in an agency
capacity or using what is known as a riskless principal transaction. In
a riskless principal transaction, after receiving an order from a
retail broker, a wholesaler may send a principal marketable order
similar to the retail broker order to an exchange and, upon execution
of the principal order at the exchange, execute the original retail
broker order at the same price.\407\
---------------------------------------------------------------------------

    \407\ See supra note 182 for further discussions on riskless
principal transactions.
---------------------------------------------------------------------------

    Commission analysis shows that wholesalers internalize over 90% of
the executed dollar value in NMS stocks from the marketable order flow
routed to them by retail brokers, which amounts to more than 80% of
share volume.\408\ Results also show that the marketable NMS stock
orders wholesalers choose to internalize have less adverse selection
risk: orders that wholesalers execute in a principal capacity have a
price impact of 0.9 bps, compared to a price impact of 4.6 bps for
those executed via other methods. This is consistent with the dealer
incentive to hold inventory that is less likely to experience adverse
changes in price.\409\
---------------------------------------------------------------------------

    \408\ See analysis in infra Table 7.
    \409\ See, e.g., David Easley, et. al. supra note 378.
---------------------------------------------------------------------------

Fractional Share Orders
    A number of retail brokers allow individual investors to trade and
enter orders for fractional shares of a security, e.g., an individual
investor could submit an order to buy 0.2 shares of a stock.\410\ This
type of trading has grown dramatically since 2019, with an increasing
number of broker-dealers offering this functionality. Evidence suggests
that this growth is in great part due to the rise in direct retail
participation in equity markets.\411\ It is the Commission's
understanding that retail or executing brokers generally trade in a
principal capacity against their customers' fractional share orders and
in turn, send out principal orders that are in a whole number of shares
(i.e., not containing a fractional share component) for execution to
manage their inventory risk.
---------------------------------------------------------------------------

    \410\ Fractional shares often arise from retail brokers allowing
individual investors to submit orders for a fixed dollar value.
    \411\ See, Zhi Da, et. al., Fractional Trading (working paper,
November 18, 2021), available at https://ssrn.com/abstract=3949697
(retrieved from SSRN Elsevier database). Also see Rick Steves,
Fractional Shares Experts Weigh In Amid Exploding Retail Trading
Volumes, FinanceFeeds (Jun. 7, 2021), available at https://financefeeds.com/fractional-shares-experts-weigh-in-amid-exploding-retail-trading-volumes/, which shows that trading volume increased
substantially (in one case, more than 1,400%) for brokers after they
introduced the use of fractional shares.
---------------------------------------------------------------------------

    An analysis using CAT data reveals that more than 46 million
fractional share orders were executed in March 2022, originating from
more than 5 million unique accounts. Over 31 million of these orders
were for less than 1 share, and they originated from more than 3.3
million accounts. The overwhelming majority (92%) of fractional share
orders were attributed to natural persons, (i.e., individual
investors). While fractional shares orders only represented a small
fraction (2.1%) of total executed orders, they represent a much higher
fraction (15.3%) of executions received by individual investors.
Execution Quality of Individual Investor Marketable Orders
    The wholesaler business model relies on segmentation and
internalization of marketable order flow of individual investors, which
is characterized by low adverse selection risk. An analysis of the
execution quality of market and marketable limit orders handled by
wholesalers retrieved from Rule 605 reports \412\ and presented in
Table 5 \413\ shows that orders in NMS stocks handled by wholesalers
are associated with lower price impact \414\ compared to those executed
on exchanges, indicating that orders handled by wholesalers on average
have lower adverse selection costs.\415\ This lower adverse selection

cost allows wholesalers to provide these orders with better execution
quality, manifested in lower effective spreads \416\ and E/Q ratios
compared to exchanges.\417\ The higher realized spreads \418\
associated with orders handled by wholesalers observed in Table 5
suggest that wholesalers have an opportunity to earn higher economic
profits than liquidity suppliers on exchanges after accounting for
adverse selection costs (i.e., after adjusting for price impact).\419\
This is despite the finding that the orders handled by wholesalers
eventually execute at better prices than those received by and executed
on exchanges, as observed by the lower effective spreads shown in Table
5 for marketable orders handled by wholesalers.
---------------------------------------------------------------------------

    \412\ Rule 605 requires market centers to make available, on a
monthly basis, standardized information concerning execution quality
for covered orders in NMS stocks that they received for execution.
See 17 CFR 242.605. Covered orders are defined in 17 CFR
242.600(b)(22) to include orders (including immediate-or-cancel
orders) received by market centers during regular trading hours at a
time when a national best bid and national best offer is being
disseminated, and, if executed, is executed during regular trading
hours, and excludes orders for which the customer requests special
handling for execution (such as not held orders). Rule 605 reports
contain a number of execution quality metrics for covered orders,
including statistics for all non-marketable limit orders with limit
prices within ten cents of the NBBO at the time of order receipt as
well as separate statistics for market orders and marketable limit
orders. Under the Rule, the information is categorized by individual
security, one of five order type categories (see 17 CFR
242.600(b)(14)), and one of four order size categories, which does
not include orders for less than 100 shares or orders greater than
or equal to 10,000 shares (see 17 CFR 242.600(b)(11)). As such, Rule
605 does not require reporting for orders smaller than 100 shares,
including odd-lot orders. Rule 605 requires market centers to report
execution quality information for all covered orders that the market
center receives for execution, including orders that are executed at
another venue (i.e., because they are effectively rerouted to
another trading center by the market center).
    \413\ The following filters were applied to the Rule 605 data to
remove potential data errors. Observations where the total shares in
covered orders were less than the sum of the canceled shares, share
executed at the market center, and share executed away from the
market center were deleted. Observations with missing order size
code, order type code, total covered shares, or total covered orders
were deleted. Realized and effective spread values are set to
missing values if the total shares executed at and away from the
market center are zero. Per share dollar realized spreads, per share
dollar effective spreads, and per share dollar price improvements
were winsorized at 20% of the volume weighted average price of the
stock for the month as calculated from NYSE Daily TAQ data.
    \414\ See supra note 394 and accompanying text for a definition
and discussion of price impact. Table 5 estimates the average price
impact associated with marketable orders routed to wholesalers to be
1.2 bps. This means that for a $10 stock the NBBO midpoint would
move up (down) by an average of 0.12 cents in the five minutes
following the execution of marketable buy (sell) order.
    \415\ Once implemented, the changes to the current arrangements
for consolidated market data in the MDI Adopting Release, 86 FR
18621 may impact the numbers in Table 5, including by reducing those
for realized spread, effective spread, and amount of price
improvement. The NBBO will narrow in stocks priced greater than $250
because it will be calculated based off a smaller round lot size.
This narrower NBBO will decrease price improvement statistics in
Rule 605 reports, which is measured against the NBBO. The effects on
effective and realized spreads is more uncertain, because they are
measured against the NBBO midpoint, which may not change if both the
NBB and NBO decrease by the same amount. However, if marketable
orders are more likely to be submitted when there are imbalances on
the opposite side of the limit order book (i.e., more marketable buy
orders are submitted when there is more size on the offer side of
the limit order book than the bid side), then the NBBO midpoint may
change such that it is closer to the quote the marketable order
executes against, which may decrease the effective and realized
spreads in stocks above $250 when Market Data Infrastructure is
implemented. It is uncertain how likely this NBBO midpoint is to
change. It is also uncertain how or to what degree these changes
would differ between exchange and wholesaler Rule 605 reports. If
both changed similarly, then there would not be changes in relative
differences between their reported spread measures. See supra
section V.B.3.a).i.b.
    \416\ See supra note 395 for a definition and discussion of
effective spreads.
    \417\ The E/Q ratio is the ratio of a stock's effective spread
over quoted spread. A lower value indicates that smaller effective
spreads (i.e., trading costs) as a percentage of the quoted spread.
    \418\ See supra note 396 and accompanying text for a definition
and discussion of realized spreads as a measure of the economic
profits earned by liquidity providers. Realized spreads do not
measure the actual trading profits that market makers earn from
supplying liquidity. In order to estimate the trading profits that
market makers earn, we would need to know at what times and prices
the market maker executed the off-setting position for a trade in
which it supplied liquidity (e.g., the price at which the market
maker later sold shares that it bought when it was supplying
liquidity). If market makers offset their positions at a price and
time that is different from the NBBO midpoint at the time lag used
to compute the realized spread measure (Rule 605 realized spread
statistics are measured against the NBBO midpoint 5 minutes after
the execution takes place), then the realized spread measure is an
imprecise proxy for the profits market makers earn supplying
liquidity. Additionally, realized spread metrics do not take into
account any transaction rebates or fees, including PFOF, that a
market maker might earn or pay, which would also affect the profits
they earn when supplying liquidity. Furthermore, realized spreads
also do not account for other costs that market makers may incur as
part of their business, such as fixed costs for setting up their
trading infrastructure and costs for connecting to trading venues
and receiving market data.
    \419\ The execution quality information in Rule 605 combines
information about orders executed at a market center with
information on orders received for execution at a market center but
executed by another market center; see supra note 412. As such, the
execution quality statistics presented in Table 5 include orders
that are effectively rerouted by wholesalers. Furthermore, note that
Rule 605 does not specifically require market centers to prepare
separate execution quality reports for their SDPs, and as such these
calculations reflect all covered market and marketable limit orders
in NMS stocks received and executed by wholesalers, including those
on SDPs.
---------------------------------------------------------------------------

    Additionally, the results in Table 5 show that approximately 79% of
the executed dollar volume in marketable orders handled by wholesalers
are market orders. The Commission believes that these outcomes reflect
the heavy utilization of market orders for NMS stocks by individual
investors whose orders are primarily handled by wholesalers, contrary
to the heavy utilization of limit orders by other market participants.
    Table 5 also highlights significantly higher fill rates, i.e., the
percentage of the shares in an order that execute in a trade, for
marketable orders sent to wholesalers as compared to exchanges.\420\
Wholesalers execute the vast majority of orders that they receive
against their own capital, i.e., they internalize the vast majority of
orders they receive.\421\ Wholesalers expose themselves to inventory
risk when internalizing order flow, but mitigate this risk by
internalizing orders that possess low adverse selection risks.
---------------------------------------------------------------------------

    \420\ Marketable orders may not fully execute if there isn't
sufficient liquidity on the exchange to fill the order within its
limit price and/or if it contains other instructions that limit
their execution, such as if they are designated as IOC orders or
their instructions not to route the order to another exchange.
    \421\ See analysis in infra Table 7 and corresponding
discussion.

        Table 5--Comparison of Rule 605 Execution Quality Statistics Between Exchanges and Wholesalers for NMS Common Stocks and ETFs in Q1 2022
--------------------------------------------------------------------------------------------------------------------------------------------------------
                                                            Combined marketable orders                Market                     Marketable limit
                                                         -----------------------------------------------------------------------------------------------
                                                                WH              EX              WH              EX              WH              EX
--------------------------------------------------------------------------------------------------------------------------------------------------------
Average Price...........................................          $47.89          $58.14          $56.19          $85.45          $30.66          $58.08
Share Volume (billion shares)...........................          106.97          179.49           72.20            0.39           34.77          179.10
Dollar Volume (billion $)...............................       $5,122.91      $10,436.02       $4,056.85          $33.53       $1,066.06      $10,402.49
Fill Rate (%)...........................................          69.32%          25.77%          99.79%          58.08%          34.81%          25.77%
Effective Spread (bps)..................................            1.81            2.06            1.47            3.29            3.11            2.06
Realized Spread (bps)...................................            0.61           -0.38            0.39            2.40            1.43           -0.39
Price Impact (bps)......................................            1.20            2.44            1.08            0.90            1.68            2.45
E/Q ratio...............................................            0.48            1.01            0.40            1.65            0.83            1.01
Pct of Shares Price Improved............................          83.17%           8.78%          88.99%          15.95%          61.01%           8.75%
Constrained Amount of Price Improvement (bps)...........            2.17            1.50            2.33            1.92            1.24            1.50
--------------------------------------------------------------------------------------------------------------------------------------------------------
This table computes aggregated execution quality statistics for marketable orders covered orders received by exchanges and wholesalers from Rule 605
  reports for Q1 2022 for NMS common stocks and ETFs. See supra note 412 for a definition of covered orders. Individual wholesaler and exchange Rule 605
  reports are aggregated together at the stock-month level, into two categories, WH and EX, such that aggregate execution quality data is averaged for,
  a) wholesalers (WH) and, b) exchanges (EX), for each stock during each month.
The following metrics were calculated: Average Price is the stock's average execution price from the Rule 605 data (Dollar Volume/Share Volume), Share
  Volume is the total executed shares (in billions) from the Rule 605 data. Dollar Volume is the total executed dollar volume (in billions), calculated
  as the executed share volume from the Rule 605 data multiplied by the stock's monthly VWAP price, as derived from NYSE Daily Trade and Quote data
  (TAQ). Fill Rate is the weighted average of the stock-month total executed share volume/total covered shares from the Rule 605 data. Effective Spread
  is the weighted average of the stock-month percentage effective half spread in basis points (bps). Realized Spread is the weighted average of the
  stock-month percentage realized half spread in basis points (bps). Price Impact is the weighted average of the stock-month percentage price impact in
  basis points (bps). E/Q ratio is the weighted average of the stock-month ratio of the effective spread/quoted spread. Pct of Shares Price Improved is
  the weighted average of the stock-month ratio of shares executed with price improvement/total executed share volume. Conditional Amount of Price
  Improvement is the weighted average of the stock-month of the amount of percentage price improvement in basis points (bps), conditional on the
  executed share receiving price improvement.

Aggregated effective and realized percentage spreads are measured in half spreads in order to show the average cost of an individual investor order and
  are calculated by dividing the aggregated Rule 605 reported per share dollar amount by twice the stock's monthly volume weighed average price (VWAP),
  as derived from NYSE Daily Trade and Quote data (TAQ), for trades executed during regular market hours during the month. Percentage price impact is
  calculated as the aggregated Rule 605 reported per share dollar effective spreads minus per share dollar realized spreads divided by twice the stock's
  monthly volume weighed average price (VWAP), as derived from NYSE Daily Trade and Quote data (TAQ). Percentage amount of price improvement is
  calculated as the aggregated Rule 605 reported per share dollar amount of price improvement divided by the stock's monthly volume weighed average
  price (VWAP), as derived from NYSE Daily Trade and Quote data (TAQ). Percentage spreads and amount of price improvement percentages are reported in
  basis points (bps). The Combined Market and Marketable Limit order type category is constructed for each security-month-order size category by
  combining the market and marketable limit order categories and computing the total and share weighted average metrics for the order size category for
  each security-month.
The sample includes NMS common stocks and ETFs that are present in the CRSP 1925 US Stock Database, Ctr. Rsch. Sec. Prices, U. Chi. Booth Sch. Bus.
  (2022). The CRSP 1925 US Indices Database, Ctr. Rsch. Sec. Prices, U. Chi. Booth Sch. Bus. (2022), was used to identify if a stock was a member of the
  S&P 500. The stock did not have to be in the CRSP 1925 US Indices Database to be included in the analysis. NMS Common stocks and ETFs are identified,
  respectively, as securities in TAQ with a Security Type Code of `A' and `ETF'. For each stock-month-order-type (such that aggregate execution quality
  data is averaged for, (a) wholesalers and, (b) exchanges, for each stock during each month) the per dollar share weighted measures from Rule 605
  reports are aggregated together by share-weighting across different trading venues and order-size categories within the stock-month-order-type and
  venue type (i.e. trading venue Rule 605 reports for exchanges and wholesalers are aggregated into different categories). Percent values are then
  calculated for each stock month by dividing by the stock's monthly volume weighed average price (VWAP). These percentage stock-month values are
  averaged together into order-type categories (market orders, marketable limit orders, and the combined market and marketable limit order type
  category, for both wholesalers and exchanges) based on weighting by the total dollar trading volume for the wholesaler or exchange category in that
  stock-month-order type, where dollar trading volume is estimated by multiplying the Rule 605 report total executed share volume, i.e., the share
  volume executed at market center + share volume executed away from the market center, for the stock-month-order type by the stock's monthly VWAP). See
  supra note 413 for a discussion of filters that were applied to the Rule 605 data in this analysis. This analysis uses data from prior to the
  implementation of the MDI Rules and specific numbers may be different following the implementation of the MDI Rules. See supra note 415.

    To supplement the analyses using Rule 605 data and test for the
robustness of the results that it generated, CAT data \422\ was
analyzed to look at the execution quality of marketable orders of
individual investors in NMS Common Stocks and ETFs that were less than
$200,000 in value and that executed and were handled by wholesalers
during Q1 2022 (``CAT retail analysis'').\423\ This was compared to a
sample of CAT data examining the execution quality of executed market
and marketable limit orders in NMS Common Stocks and ETFs received by
exchanges that were less than $200,000 in value over the same time
period (``CAT exchange analysis'').\424\
---------------------------------------------------------------------------

    \422\ This analysis used CAT data to examine the execution
quality of marketable orders in NMS Common stocks and ETFs that
belonged to accounts with a CAT account type of ``Individual
Customer'' and that originated from a broker-dealer MPID that
originated orders from 10,000 or more unique ``Individual Customer''
accounts during January 2022. The number of unique ``Individual
Customer'' accounts associated with each MPID was calculated as the
number of unique customer account identifiers with an account
customer type of ``Individual Customer'' that originated at least
one order during the month of January 2022. The Commission found
that 58 broker-dealer MPIDs associated with 54 different broker-
dealers originated orders from 10,000 or more unique Individual
Customer accounts in January 2022. For the Consolidated Audit Trail,
account type definitions are available in Appendix G to the CAT
Reporting Technical Specifications for Industry Members (https://catnmsplan.com/), for the field name ``accountHolderType.'' Account
types represent the beneficial owner of the account for which an
order was received or originated, or to which the shares or
contracts are allocated. Possible types are: Institutional Customer,
Employee, Foreign, Individual Customer, Market Making, Firm Agency
Average Price, Other Proprietary, and Error. An Institutional
Customer account is defined by FINRA Rule 4512(c) as a bank,
investment adviser, or any other person with total assets of at
least $50 million. An Individual Customer account means an account
that does not meet the definition of an ``institution'' and is also
not a proprietary account. Therefore, the CAT account type
``Individual Customer'' includes natural persons as well as
corporate entities that do not meet the definitions for other
account types. The Commission restricted that analysis to MPIDs that
originated orders from 10,000 or more ``Individual Customer''
accounts in order to ensure that these MPIDs are likely to be
associated with retail brokers to help ensure that the sample is
more likely to contain marketable orders originating from individual
investors. NMS Common stocks and ETFs are identified, respectively,
as securities in TAQ with a Security Type Code of `A' and `ETF'.
    \423\ Fractional share orders with share quantity less than one
share were excluded from the analysis. The analysis included market
and marketable limit orders that originated from one the 58 retail
broker MPIDs and were received by a market center that was
associated with one of the six wholesalers CRD numbers (FINRA's
Central Registration Depository number) during some point in the
order's lifecycle. Orders that were received by the wholesaler or
executed outside of normal market hours were excluded. Orders were
also excluded if they had certain special handling codes so that
execution quality statistics would not be skewed by orders being
limited in handling by special instructions (e.g., pegged orders,
stop orders, post only orders). Orders identified in CAT as Market
and Limit orders with no special handling codes or one of the
following special handling codes were included in the analysis: NH
(not held), CASH (cash), DISQ (display quantity), RLO (retail
liquidity order), and DNR (do not reduce). These special handling
codes were identified based on their common use by retail brokers
and descriptions of their special handling codes. The marketability
of a limit order was determined based on the consolidated market
data feed NBBO at the time a wholesaler first receives the order.
Limit orders that were not marketable were excluded. The dollar
value of an order was determined by multiplying the order's number
of shares by either its limit price, in the case of a limit order,
or by the far side quote (i.e., NBO for a market buy order and NBB
for a market sell) of the consolidated market data feed NBBO at the
time the order was first received by a wholesaler, in the case of a
market order. Orders with dollar values greater than or equal to
$200,000 were excluded from the analysis. The analysis includes NMS
Common Stocks and ETFs (identified by security type codes of `A' and
`ETF' in NYSE TAQ data) that are also present in CRSP data. Price
improvement, effective spreads, realized spreads, quoted spreads,
and price impacts were winsorized if they were greater than 20% of a
stock's VWAP during a stock-week. See Table 6 for a detailed
description of the analysis.
    \424\ The Commission analysis used CAT data to examine the
execution quality of market and marketable limit orders in NMS
Common Stocks and ETFs that were under $200,000 in value that were
received and executed by exchanges during normal market hours in Q1
2022. The analysis employed filters to clean the data and account
for potential data errors. The analysis is limited to orders
identified in CAT as market and limit orders accepted by exchanges.
Orders were excluded from the analysis if they had certain special
handling codes, such as post or add-liquidity only orders, midpoint
orders, orders that can only execute in opening and closing
auctions, orders with a minimum execution quantity, pegged orders,
or stop order or stop-loss orders. Orders were also required to
execute in normal trades during normal trading hours to be included
in the analysis. Normal trades are identified in CAT data by sale
conditions ``blank, @, E, F, I, S, Y'' which correspond to regular
trades, intermarket sweep orders, odd lot trades, split trades, and
yellow flag regular trades. For orders submitted to exchanges, the
NBBO the exchange records seeing at the time of order receipt is
used to measure the NBBO and NBBO midpoint for calculating
statistics that are based on the time of order receipt (e.g.,
effective spreads, price improvement, quoted spreads, etc.). The
marketability of exchange orders was determined based on the NBBO
observed by the exchange at the time of order receipt. The dollar
value for a market order was calculated as the price of the far side
NBBO quote (NBO for a market buy order and NBB for a market sell)
times the shares in the order. The dollar value for a limit order
was calculated as the price of the limit order times the number of
shares in the order. Orders with dollar values greater than or equal
to $200,000 were excluded from the analysis. The consolidated market
data feed NBBO was used to calculate statistics that use the NBBO or
NBBO one minute after execution (e.g., realized spreads, price
impacts, etc.). The analysis includes NMS Common Stocks and ETFs
(identified by security type codes of `A' and `ETF' in NYSE TAQ
data) that are also present in CRSP data. Price improvement,
effective spreads, realized spreads, quoted spreads, and price
impacts were winsorized if they were greater than 20% of a stock's
VWAP during a stock-week. See Table 6 for a detailed description of
the analysis.

---------------------------------------------------------------------------

    Table 6 reports the results from CAT data analysis.\425\ In
addition to reporting results for all stocks, it also breaks out
results based by if a stock is an ETF or is in the S&P 500 or not.
Generally, the results from this analysis are consistent with results
from the analysis of Rule 605 data from Table 5. Specifically,
wholesalers display lower price impacts (WH Price Impact) and E/Q
ratios (WH E/Q Ratio), indicating that orders internalized by
wholesalers receive better execution quality relative to order executed
on exchanges (EX Price Impact and EX E/Q Ratio containing the
corresponding statistics for exchanges). Despite this enhanced
execution quality, realized spreads of wholesalers (WH Realized Spread)
exceed those produced by exchanges (EX Realized Spread).
---------------------------------------------------------------------------

    \425\ Certain items in Table 6 may also be affected by the MDI
rules once they are implemented. See supra note 415.
---------------------------------------------------------------------------

    Table 6 also reports some statistics for wholesalers that are not
available in Rule 605 reports, including statistics on midpoint
executions (WH Pct Shares Executed at Midpoint) and sub-penny trades
(WH Pct of Shares Executed as Subpenny Prices). In all NMS common stock
and ETF orders, wholesalers execute approximately 44% of shares at
prices at or better than the NBBO midpoint (WH Pct Shares Executed at
Midpoint or Better). However, wholesalers also offer less than 0.1
cents price improvement to approximately 18.6% of shares that they
execute (WH Pct Shares Executed with <0.1 cent Price Improvement).
Wholesalers execute more than 65% of shares at sub-penny prices (WH Pct
of Shares Executed as Subpenny Prices), with over 40% of shares being
executed at prices with four decimal points (i.e., the fourth decimal
place is not equal to zero, which is measured by the WH Pct of Shares
Executed at Subpenny Prices with 4 Decimals variable).

 Table 6--Wholesaler CAT Analysis of Exchange Individual Investor Order Execution Quality for Marketable Orders
                                 in NMS Common Stocks and ETFs by Type of Stock
----------------------------------------------------------------------------------------------------------------
                    Variable                            All            SP500         NonSP500           ETF
----------------------------------------------------------------------------------------------------------------
                               Panel A: Wholesaler and Exchange Execution Quality
----------------------------------------------------------------------------------------------------------------
Average Price...................................          $29.87         $110.31          $10.52          $53.14
WH Principal Execution Rate.....................          90.44%          93.07%          87.66%          88.12%
WH Share Volume (billion shares)................           87.11           11.63           63.17           12.31
EX Share Volume (billion shares)................          281.90           66.98          140.82           74.10
WH Dollar Volume (billion $)....................       $2,601.44       $1,282.62         $664.41         $654.41
EX Dollar Volume (billion $)....................      $16,194.84       $6,479.89       $3,246.09       $6,468.85
WH Effective Spread (bps).......................            2.11            0.67            6.23            0.76
EX Effective Spread (bps).......................            3.18            1.52            8.11            1.42
WH Realized Spread (bps)........................            0.85            0.42            2.00            0.51
EX Realized Spread (bps)........................           -1.22           -0.28           -3.90           -0.34
WH Price Impact (bps)...........................            1.26            0.25            4.22            0.25
EX Price Impact (bps)...........................            4.40            1.80           12.00            1.75
WH E/Q Ratio....................................            0.39            0.32            0.50            0.41
EX E/Q Ratio....................................            1.04            1.01            0.98            1.17
----------------------------------------------------------------------------------------------------------------
                                      Panel B: Wholesaler Price Improvement
----------------------------------------------------------------------------------------------------------------
WH Pct Executed with Price Improvement..........          89.95%          93.33%          85.43%          87.93%
WH Conditional Amount Price Improvement (bps)...            2.54            1.47            6.16            0.99
WH Pct Shares Executed at Midpoint or Better....          44.57%          47.37%          39.76%          43.97%
WH Pct Shares Executed at Midpoint..............          31.69%          32.47%          28.46%          33.44%
WH Pct Shares Executed at NBBO..................           8.38%           5.86%          10.97%          10.69%
WH Pct Shares Executed Outside NBBO.............           1.67%           0.81%           3.61%           1.38%
WH Pct Shares Executed with <0.1 cent Price               18.64%          16.62%          20.58%          20.64%
 Improvement....................................
WH Pct of Shares Executed as Subpenny Prices....          66.98%          65.10%          64.16%          73.55%
WH Pct of Shares Executed at Subpenny Prices              47.60%          46.82%          47.03%          49.68%
 without Midpoint Trades........................
WH Pct of Shares Executed at Subpenny Prices              41.36%          40.80%          41.76%          42.06%
 with 4 Decimals................................
----------------------------------------------------------------------------------------------------------------
This table uses CAT data to compare aggregated execution quality statistics for Q1 2022 broken out for different
  security types for executed marketable orders with order size under $200,000 in NMS Common Stocks and ETFs
  received by wholesalers from individual investors to similar orders received by exchanges. Aggregated
  statistics in the table labeled WH are based on analysis of CAT data of executed marketable orders in NMS
  Common Stocks and ETFs from individual investors for under $200,000 in value belonging to one of 58 retail
  broker MPIDs that were handled by one of 6 wholesalers during normal market hours in Q1 2022 (see supra note
  423 for additional discussions on the CAT data used in the CAT retail analysis). Aggregated statistics in the
  table labeled EX are based on a corresponding analysis of CAT data of executed marketable orders in NMS Common
  Stocks and ETFs receive by exchanges that were under $200,000 in value and received and executed during normal
  market hours in Q1 2022 (see supra note 424 for additional discussions on the CAT data used in CAT exchange
  analysis).

The following metrics are calculated for all stocks and for each of the stock-types. EX indicates aggregated
  statistics for executed marketable orders routed to exchanges and WH indicates aggregated statistics for
  executed marketable orders from individual investors that were routed to wholesalers. Average Price is the
  average execution price. WH Principal Execution Rate is the percentage of dollar volume of individual investor
  trades that a wholesaler executed in a principal capacity. Share Volume is the total executed share volume.
  Dollar Volume is the total executed dollar volume. Effective Spread is the weighted average of the percentage
  effective half spread in basis points (bps) (measured as average (execution price--NBBO midpoint at time of
  order receipt) * average transaction price). Realized Spread is the weighted average of the percentage one
  minute realized spread in bps (measured as average (execution price--NBBO midpoint one minute after execution)
  * average transaction price). Price Impact is the weighted average of the percentage one-minute price impact
  spread in bps (measured as average (NBBO midpoint one minute after execution--NBBO midpoint at time of order
  receipt)/average transaction price). E/Q Ratio is the weighted average of the ratio of the effective dollar
  spread divided by its quoted spread at the time of order receipt. WH Pct Executed with Price Improvement is
  the weighted average of the percentage of share volume that is routed to wholesalers and executed at a price
  better than the NBBO. WH Conditional Amount Price Improvement is the weighted average amount of percentage
  price improvement given by wholesalers conditional on the order receiving price improvement in bps (measured
  for a marketable buy order as average (NBO at time of order receipt--execution price) and measured for a
  marketable sell order as average (execution price--NBB at time of order receipt) and then dividing the
  difference by the average transaction price). WH Pct Share Executed at Midpoint or Better is the weighted
  average of the percentage of shares that are routed to a wholesaler and executed at prices equal to or better
  than the NBBO midpoint at the time of order receipt. WH Pct Share Executed at Midpoint is the weighted average
  of the percentage of shares that are routed to a wholesaler and executed at a price equal to the NBBO midpoint
  at the time of order receipt. WH Pct Shares Executed at NBBO is the weighted average of the percentage of
  share volume routed to a wholesaler and executed at the NBBO at the time of order receipt (executed at the NBB
  for marketable sell orders and the NBO for marketable buy orders). WH Pct Shares Executed Outside NBBO is the
  weighted average of the percentage of share volume routed to wholesalers and executed at prices outside the
  NBBO at the time of order receipt (executed a price less than the NBB for marketable sell orders and a price
  greater than the NBO for marketable buy orders). WH Pct Shares Executed with <0.1 cent Price Improvement is
  the weighted average of the percentage of shares that are executed with an amount of price improvement less
  than 0.1 cents measured against the NBBO at the time of order receipt. WH Pct Shares Executed Subpenny Prices
  is the weighted average of the percentage of shares that execute at a subpenny price (a dollar execution price
  with a non-zero value in the third or fourth decimal place). WH Pct Shares Executed at Subpenny without
  Midpoint Trades is the weighted average of the percentage of shares that execute at a subpenny price (an
  dollar execution price with a non-zero value in the third or fourth decimal place), excluding executions with
  subpenny prices that occur at the NBBO midpoint. WH Pct Shares Executed at Subpenny Prices with 4 Decimals is
  the weighted average of the percentage of shares that execute at a subpenny price where there is a dollar
  execution price with a non-zero value in the fourth decimal place. Average transaction prices used in
  calculating the metrics are calculated as the total dollar trading volume divided by the total share trading
  volume in the category and time period.
For the wholesaler (WH) CAT metrics used in the sample, the analysis includes marketable orders for under
  $200,000 in value that originate from a customer with a CAT account type of ``individual'' at one of the 58
  retail broker MPIDs and are routed to a wholesaler (see supra note 422 for more info on CAT account types and
  retail broker identification methodology and supra note 423 for more details on how the CAT retail analysis
  sample was constructed). Fractional share orders with share quantity less than one share were excluded from
  the analysis. Orders were also excluded if they had certain special handling codes. The marketability of a
  limit order is determined based on the consolidated market data feed NBBO at the time a wholesaler first
  receives the order.
For the exchange (EX) CAT metrics, executed market and marketable limit orders received by exchanges during
  normal market hours were over the same period were used to calculate the exchange execution quality statics
  (see supra note 424 for more details on how the CAT exchange sample was constructed). Exchange orders were
  filtered if they had certain special handling codes. The marketability of exchange orders was determined based
  on the NBBO observed by the exchange at the time of order receipt.
The dollar value of an order was determined by multiplying the order's number of shares by either its limit
  price, in the case of a limit order, or by the far-side quote of the NBBO at the time of order receipt, in the
  case of a market order. The analysis includes NMS Common Stocks and ETFs (identified by security type codes of
  `A' and `ETF' in NYSE TAQ data) that are also present in CRSP data from CRSP 1925 US Stock Database, Ctr.
  Rsch. Sec. Prices, U. Chi. Booth Sch. Bus. (2022). The CRSP 1925 US Indices Database, Ctr. Rsch. Sec. Prices,
  U. Chi. Booth Sch. Bus. (2022), was used to identify if a stock was a member of the S&P 500. The stock did not
  have to be in the CRSP 1925 US Indices Database to be included in the analysis. Time of order receipt is
  defined as the time the wholesaler or exchange first receives the order. Wholesaler metrics based on the time
  of order receipt are measured against the NBBO from the consolidated market data feed. Exchange metrics based
  on time of order receipt are measured against the NBBO the exchange reports observing. Realized spreads for
  both exchange and wholesaler metrics are calculated with respect to the NBBO midpoint from the consolidated
  market data feed observed one minute after the time of order execution.
Separately, for both the exchange and wholesaler samples, total share volume, total dollar volume, average
  transaction price, percentage volume metrics, and share weighted average dollar per share spread, price
  impact, and price improvement metrics were calculated at a stock-week-order size category level by aggregating
  together execution quality statistics calculated for individual orders. The order-size categories were defined
  as orders less than 100 shares, 100-499 shares, 500-1,999 shares, 2,000-4,999, 5,000-9,999 shares, and 10,000+
  shares. For each stock-week-order size category, percentage spread, price impact, and price improvement
  metrics were calculated by dividing the average dollar per share metric by the average transaction price
  calculated for each stock-week-order size category. E/Q ratios were calculated for each stock-week-order size
  category by dividing the average dollar per share effective spread by the average dollar per share quoted
  spread.
Exchange sample metrics for E/Q ratios and percentage spread, price impact, and price improvement metrics for a
  for each stock-week-order size category were then merged with the corresponding stock-week-order size category
  in the wholesaler sample. Weighted averages for both wholesaler and exchange metrics and the wholesaler
  percentage volume metrics are then calculated for the security type in the sample by averaging across stock-
  week-order size category levels based on their total dollar transaction volume during the sample period in the
  wholesaler CAT sample (i.e., for both exchanges and wholesalers, using the stock's total dollar trading volume
  in wholesaler executed transactions as the weight when averaging the share weighted average stock-week- size
  category values). Weighting the exchange and wholesaler execution metrics by the same weights helps to ensure
  the samples are comparable across stocks. Total dollar volume and share volume for the exchange and wholesaler
  samples are calculated by summing across all executions in a security type in each sample. The wholesaler
  Principal Execution Rate is calculated for a security type in the wholesaler sample by summing the total
  dollar volume in trades wholesalers executed in a principal capacity across the security type in the
  wholesaler sample and dividing by the total dollar volume in traded in the security type in the wholesaler
  sample.
This analysis uses data from prior to the implementation of the MDI Rules and specific numbers may be different
  following the implementation of the MDI Rules. See supra note 415.

    Table 7 uses CAT data to summarize how individual investor
marketable NMS stock order execution quality varies based on whether
the wholesaler executes the order in a principal capacity (i.e.,
internalizes the order) or effectively reroutes the order (i.e.,
executes in a riskless principal or handles it in an agency capacity).
This analysis supports the interpretation that wholesalers identify and
tend to internally execute individual investor orders associated with
the lower adverse selection costs.\426\ Internalized orders have a
lower price impact (0.91 bps as compared to 4.63 bps for those
effectively rerouted, measured by WH Price Impact), and lower effective

spreads (1.77 compared to 5.36 for other transactions, measured by WH
Effective Spread). Wholesalers also earn higher realized spreads on the
orders they execute as principal (0.86 bps for principal transactions
compared to 0.72 bps earned by those providing liquidity for the
riskless principal or agency transactions, measured by WH Realized
Spread), despite executing them at lower effective spreads.
---------------------------------------------------------------------------

    \426\ Certain items in Table 7 may also be affected by the MDI
Rules once they are implemented. See supra note 415.

 Table 7--Wholesaler CAT Analysis of Individual Investor Order Execution
                Quality by Wholesaler Execution Capacity
------------------------------------------------------------------------
                                                            Effectively
                Variable                   Internalized      rerouted
------------------------------------------------------------------------
Average Price...........................          $33.48          $14.78
WH Orders (million).....................          236.95           34.36
WH Trades (millions)....................          251.32           74.36
WH Share Volume (billion shares)........           70.28           16.83
WH Pct of Executed Share Volume.........          80.68%          19.32%
WH Dollar Volume (billion $)............       $2,352.80         $248.64
WH Pct of Executed Dollar Volume........          90.44%           9.56%
WH Effective Spread (bps)...............            1.77            5.36
WH Realized Spread (bps)................            0.86            0.72
WH Price Impact (bps)...................            0.91            4.63
WH E/Q Ratio............................            0.35            0.70
WH Pct Executed with Price Improvement..          93.37%          57.65%
WH Conditional Amount Price Improvement             2.45            3.74
 (bps)..................................
WH Pct Shares Executed at Midpoint or             46.05%          30.65%
 Better.................................
WH Pct Shares Executed at Midpoint......          32.23%          26.53%
WH Pct Shares Executed at NBBO..........           5.51%          35.49%
WH Pct Shares Executed Outside NBBO.....           1.12%           6.86%
WH Pct Shares Executed with <0.1 cent             20.38%           2.22%
 Price Improvement......................
------------------------------------------------------------------------
The table summarizes execution quality statistics from the CAT retail
  analysis based on whether the wholesaler executed the individual
  investor NMS stock order in a principal capacity or in another
  capacity (i.e., in an agency or riskless principal capacity). The
  majority of the other transactions are executed by the wholesaler in a
  riskless principal capacity. See supra Table 6 for additional details
  on the sample and metrics used in the analysis. Share-weighted
  percentage metrics are averaged together at the individual execution
  capacity-stock-week-order-size category level for the wholesaler
  sample using the methodology in Table 6. Weighted averages for the
  metrics are then calculated for each execution capacity by averaging
  across execution capacity-stock-week-order size category levels based
  on their total dollar transaction volume during the sample period in
  the wholesaler CAT sample. This analysis uses data from prior to the
  implementation of the MDI Rules and specific numbers may be different
  following the implementation of the MDI Rules. See supra note 415.

    The analysis in Table 7 presents evidence that wholesalers execute
46% of the shares they internalize at prices equal to or better than
the midpoint. However, additional analysis of CAT data indicates that
there is often midpoint liquidity on exchanges and NMS Stock ATSs when
wholesalers internalize individual investor orders at prices worse than
the midpoint.
    Table 8 uses CAT data from March 2022 to examine the non-displayed
liquidity available at the NBBO midpoint on exchanges and NMS Stock
ATSs at a moment in time when a wholesaler internalizes an individual
investor marketable order at a price less favorable (to the customer)
than the NBBO midpoint.\427\ The results indicate that, on
average,\428\ 51% of the shares internalized by wholesalers are
executed at prices less favorable than the NBBO midpoint (Wholesaler
Pct Exec Shares Worse Than Midpoint). Out of these individual investors
shares that were executed at prices less favorable than the midpoint,
on average, 75% of these shares could have hypothetically executed at a
better price against the non-displayed liquidity resting at the NBBO
midpoint on exchanges and NMS Stock ATSs. Under the current market
structure, this liquidity is not displayed, so wholesalers may not have
been aware of this liquidity and able to execute the individual
investor marketable orders against it. Currently, if wholesalers wanted
to detect this hidden liquidity, they would have had to ping each
individual exchange or NMS Stock ATS to see if midpoint liquidity was
available on that venue.\429\
---------------------------------------------------------------------------

    \427\ More specifically, the analysis uses CAT data to look at
the total shares available at the NBBO midpoint that originate from
hidden midpoint pegged orders on exchanges and NMS Stock ATSs. The
analysis compares the size of an individual investor marketable
order that was internalized in a principal capacity by a wholesaler
at a price less favorable than the NBBO midpoint (measured at the
time the wholesaler received the order) to the total shares of
midpoint liquidity (originating from midpoint peg orders) at the
NBBO midpoint on exchanges and NMS Stock ATSs at the time the
individual investor order is executed in order to hypothetically see
how many additional shares could have gotten price improvement if
they had executed against the hidden liquidity available at the NBBO
midpoint. A midpoint peg order is a type of hidden order whose price
automatically adjusts with the NBBO midpoint. The analysis looks at
midpoint peg orders on exchanges and ATSs during normal market hours
(midpoint peg orders with an Immediate or Cancel or Fill or Kill
modifier are excluded). The total potential shares in orders that
were available at the NBBO midpoint from midpoint peg orders on
exchanges and ATSs was calculated each stock day by adding shares
when midpoint peg orders were received by an exchange or ATS and
subtracting shares in these orders that were canceled or traded.
Shares were also subtracted from the total when a wholesaler
internalized an individual investor marketable order at a price
worse than the NBBO midpoint and shares were available at the
midpoint on exchanges and ATSs that the order could have
hypothetically executed against. This ensures that that analysis is
not overestimating the available midpoint liquidity (i.e., it
ensures that we do not estimate two individual investor 100 share
orders could have executed against the same resting 100 share
midpoint order). The analysis also kept track of the total amount of
dollars of additional price improvement that individual investors
would have received if their orders had hypothetically executed
against the liquidity available at the NBBO midpoint instead of
being internalized by the wholesaler. Note that this analysis might
underestimate the total non-displayed liquidity available at the
NBBO midpoint because it only looks at orders that pegged to the
midpoint and not other orders, such as limit orders with a limit
price equal to the NBBO midpoint.
    \428\ As discussed in Table 8, percentages were computed at a
stock-week level and then averaged across stock-weeks by weighting
by the total dollar volume the wholesaler internalized during that
stock-week.
    \429\ Pinging for midpoint liquidity at multiple venues could
increase the risk of information leakage or that prices may move,
possibly resulting in some market participants canceling midpoint
orders they posted.
---------------------------------------------------------------------------

    Table 8 also estimates that the additional dollar price improvement
that these individual investor marketable orders would have received

if they had executed against the available midpoint liquidity instead
of being internalized. The total amount of additional price improvement
that all of these individual investor orders would have received was
about 51% of the total dollar price improvement provided by wholesalers
to all of the individual investor marketable orders that they
internalized (i.e., the marketable orders internalized at prices better
or equal to the midpoint plus marketable orders internalized at prices
worse than the midpoint).\430\
---------------------------------------------------------------------------

    \430\ This estimate of the potential additional price
improvement if orders are executed against midpoint liquidity only
accounts for differences in the potential execution prices of the
order and does not account for any other differences in costs of
executing the order at different venues, such as differences in PFOF
or access fees and rebates.
---------------------------------------------------------------------------

    In addition, the results in Table 8 also indicate the availability
of NBBO midpoint liquidity is only slightly lower for less liquid (non-
S&P 500 stocks) as liquid (S&P500) stocks. That is, while about 57% of
the shares in individual investor marketable orders in non-S&P500
stocks internalized by wholesalers received executions at less
favorable prices than the NBBO midpoint, there was nevertheless hidden
liquidity available at the NBBO midpoint for about 68% of these non-
S&P500 shares. Moreover, the potential additional price improvement
that could have been gained by if these individual investor orders had
executed against this NBBO midpoint liquidity is almost 55% of the
total price improvement provided by wholesalers in these stocks.

                                    Table 8--Available Midpoint Liquidity When Wholesaler Internalizes a Retail Trade
--------------------------------------------------------------------------------------------------------------------------------------------------------
                                                                                Wholesaler                      Additional
                                                                                Pct exec     Pct shares  MP   dollar price
               Stock type                           Price group                   Liquidity  bucket        shares worse        price        improvement
                                                                                than midpoint    improvement         Pct
--------------------------------------------------------------------------------------------------------------------------------------------------------
All....................................  All..............................  ............................           51.05           74.60           51.05
SP500..................................  All..............................  ............................           48.41           72.32           41.43
SP500..................................  (1) <$30.........................  ............................           64.36           60.08           50.00
SP500..................................  (2) $30-$100.....................  ............................           47.82           60.36           29.29
SP500..................................  (3) $100+........................  ............................           47.69           75.69           43.27
NonSP500...............................  All..............................  ............................           57.45           68.10           54.51
NonSP500...............................  (1) <$30.........................  Low.........................           73.30           49.52           67.63
NonSP500...............................  (1) <$30.........................  Medium......................           71.30           60.25           82.85
NonSP500...............................  (1) <$30.........................  High........................           66.77           52.18           59.74
NonSP500...............................  (2) $30-$100.....................  Low.........................           63.60           80.69           68.88
NonSP500...............................  (2) $30-$100.....................  Medium......................           57.71           85.24           61.80
NonSP500...............................  (2) $30-$100.....................  High........................           50.24           71.79           44.58
NonSP500...............................  (3) $100+........................  Low.........................           61.62           84.32           61.49
NonSP500...............................  (3) $100+........................  Medium......................           55.40           93.29           55.96
NonSP500...............................  (3) $100+........................  High........................           47.15           90.99           45.57
ETF....................................  All..............................  ............................           49.93           86.06           58.28
ETF....................................  (1) <$30.........................  Low.........................           66.58           39.75           31.61
ETF....................................  (1) <$30.........................  Medium......................           57.95           54.91           38.35
ETF....................................  (1) <$30.........................  High........................           62.24           78.47           88.70
ETF....................................  (2) $30-$100.....................  Low.........................           61.01           62.00           41.78
ETF....................................  (2) $30-$100.....................  Medium......................           53.94           77.54           46.85
ETF....................................  (2) $30-$100.....................  High........................           49.87           84.09           49.56
ETF....................................  (3) $100+........................  Low.........................           52.45           72.28           40.13
ETF....................................  (3) $100+........................  Medium......................           47.51           87.20           45.35
ETF....................................  (3) $100+........................  High........................           46.93           90.28           48.33
--------------------------------------------------------------------------------------------------------------------------------------------------------
This table summarizes midpoint liquidity available on exchanges and ATSs during March 2022 when a wholesaler internalizes an individual investor
  marketable order less than $200,000 in an NMS common stock or ETF on a principal basis at a price less favorable than the NBBO midpoint (at the time
  of the wholesaler receives the order) from one of the 58 retail broker MPIDs in the CAT retail analysis. Stocks are broken out into buckets based on
  their security type, price, and liquidity. Stock type is based on whether a security is an ETF, or a common stock in the S&P 500 or Non-S&P 500. Price
  buckets are based on a stock's weekly average VWAP price as estimated from TAQ. Stocks within each security type-price bucket, except S&P 500 stocks,
  are sorted into three equal liquidity buckets based on the stock's total share trading volume during the week estimated using TAQ data. See supra
  Table 6 for additional details on the sample and CAT analysis of wholesaler executions of the orders of individual investors.
Wholesaler Pct Exec Shares Worse Than Midpoint is the average percentage of individual investor shares that wholesalers executed on a principal basis at
  a price less favorable than the NBBO midpoint (measured at the time the wholesaler receives the order). Pct Shares MP Price Improvement is the average
  percentage of shares that the wholesaler executed at a price less favorable than the NBBO midpoint that could have executed at a better price against
  resting liquidity available at the NBBO midpoint on exchanges and NMS Stock ATSs at the time the wholesaler executed the order. Additional Dollar
  Price Improvement Pct is the ratio of the total additional dollars of price improvement of the sample period that individual investors whose orders
  were executed at a price less favorable than midpoint would have received if their orders would have executed against available midpoint liquidity,
  divided by the total dollars in price improvement (measured relative to the NBB or NBO at the time of order receipt) that wholesalers provided over
  the sample period when they internalized individual investor orders (i.e. the total price improvement for orders wholesalers internalized at prices
  less favorable than the midpoint plus the total price improvement for orders wholesalers internalized at prices more favorable than the midpoint).

Midpoint liquidity is measured based on resting midpoint peg orders on exchanges and NMS Stock ATSs during normal market hours identified from CAT data.
  Midpoint peg orders with an Immediate or Cancel or Fill or Kill modifier are excluded. The total potential shares in orders that were available at
  midpoint on exchanges and ATSs at a point in time were calculated keeping a running total each stock day by adding shares when midpoint peg orders
  were received by an exchange or NMS Stock ATS and subtracting shares when shares in these midpoint peg orders were canceled or traded. When a
  wholesaler executes an order at a price less favorable than the NBBO midpoint (at the time the wholesaler receives the order), then the executed
  shares are compared to the available resting liquidity at the NBBO midpoint. If the NBBO midpoint at the time the order is executed would provide
  price improvement over the price the wholesaler would have executed the order at, then the shares executed by the wholesaler are subtracted from the
  total resting shares available at the NBBO midpoint, up to the lesser of the number of shares executed by the wholesaler or the total resting shares
  available (i.e. the total resting shares will not drop below zero). These are counted as the total shares that would have received additional price
  improvement at the midpoint. This methodology ensures that that analysis is not overestimating the available midpoint liquidity (i.e. it ensures that
  we do not estimate two individual investor 100 share orders could have executed against the same resting 100 share midpoint order). NBBO midpoints for
  both time of order receipt and time of execution are estimated from the consolidated market data feed.
The additional dollars of price improvement individual investors whose orders were executed at a price less favorable than the midpoint would have
  received if their orders would have executed against available midpoint liquidity was calculated as the difference between the price the wholesaler
  executed the order at and the NBBO midpoint at the time the wholesaler executed the order (i.e., executed price--NBBO midpoint at the time of
  execution for a marketable buy order and midpoint--executed price for a marketable sell order ) times the number of shares that would have received
  the additional price improvement.
Weighted averages are calculated for the variables Wholesaler Pct Exec Shares Worse Than Midpoint and Pct Shares MP Price Improvement using the
  following methodology. Percentages based on share volume are calculate for each stock-week (e.g., total shares executed at a price worse than the
  midpoint during a stock-week divided by the total shares of individual investor marketable orders executed by a wholesaler in a principal capacity
  during the stock-week). Weighted averages are then calculated for each stock-type-price-liquidity bucket by averaging these stock-week percentages
  over the month by weighting each stock-week by the total dollar trade volume internalized by the wholesaler during the stock-week (i.e., using the
  stock's total dollar trading volume internalized by the wholesaler as the weight when averaging the stock-week percentage values).
The Additional Dollar Price Improvement Pct is not weighted and is calculated as the ratio of the month's total additional dollar price improvement
  orders executed at a price less favorable than the NBBO would have received if their orders would have executed against available midpoint liquidity,
  divided by the month's total dollars in price improvement (measured relative the NBBO at the time of order receipt) that wholesalers provided when
  they executed individual investor orders (i.e. the total price improvement for orders wholesalers internalized at prices less favorable than the
  midpoint plus the total price improvement for orders wholesalers internalized at prices more favorable than the midpoint.

ii. Listed Options
a. Options Trading Services Overview
    Registered exchanges are the sole providers of trading services in
the market for listed options, and the Options Clearing Corporation
(OCC) is the sole entity clearing trades for exchange-listed options
and security futures.\431\ All listed options trading occurs on
exchanges. Exchanges compete with each other by offering different cost
structures to participate on the exchange, and offering differing order
types to allow customers advanced trading strategies. Options exchanges
offer the ability to route orders to competing options exchanges in the
event of a competing option exchange having the best price for a given
options order.\432\
---------------------------------------------------------------------------

    \431\ See What Is OCC?, The Options Clearing Corporation,
available at https://www.theocc.com/Company-Information/What-Is-OCC.
Listed options can only be traded on a registered options exchange.
See By-Laws of The Options Clearing Corporation, Article I, Section
1(C)(28) (defining ``confirmed trade'') and Article VI, Section 1.
    \432\ See e.g., Securities Exchange Act Release No. 60405 (July
30, 2009), 74 FR 39362 (August 6, 2009) (approving the national
market system plan relating to options order protection and locked/
crossed markets) (File No. 4-546).
---------------------------------------------------------------------------

    There are sixteen options exchanges \433\ in the U.S. options
market. Each of the sixteen exchanges is operated by one of five
exchange groups.\434\ Table 9 presents the market share, as measured by
contract volume, for each option exchange and each exchange group based
on OPRA data from 2022/01/01 to 2022/03/31. Cboe is the exchange with
the largest market share,\435\ at close to 15%. However, on the
exchange group level, the Nasdaq group, with its six exchanges, has the
highest market share.
---------------------------------------------------------------------------

    \433\ Eight exchanges trade only options. Eight trade both
options and equities.
    \434\ Exchange groups are collection of exchanges operated by
one parent entity.
    \435\ This is in part due to the fact that there are several
very liquid Cboe-listed only products such as SPX and SPXW.

               Table 9--U.S. Options Exchange Market Share
------------------------------------------------------------------------
                                                                 Market
                Group                         Exchange           share
                                                               (percent)
------------------------------------------------------------------------
BOX.................................  BOX....................       5.78
Cboe................................  Cboe...................      14.81
                                      C2.....................       3.66
                                      EDGX...................       4.86
                                      BZX....................       7.91
Nasdaq..............................  Nasdaq.................       7.93
                                      BX.....................       2.01
                                      PHLX...................      10.91
                                      GEMX...................       2.32
                                      ISE....................       5.63
                                      MRX....................       1.69
NYSE................................  AMEX...................       6.68
                                      Arca...................      12.54
MIAX................................  MIAX...................       5.39
                                      PEARL..................       4.26
                                      EMERALD................       3.61
------------------------------------------------------------------------

    There is one ATS in the market for listed options.\436\ As the
Commission understands, this ATS offers subscribers an RFQ
protocol.\437\ A customer may accept the quote the ATS returns from the
RFQ protocol, after which the order is sent to an exchange for
execution.
---------------------------------------------------------------------------

    \436\ In contrast to the market for NMS Stocks, ATS trades in
NMS Options are still executed on an exchange.
    \437\ See, DASH Financial Technologies, Execution Services: Dash
ATS available at https://dashfinancial.com/execution-services/dash-ats/.
---------------------------------------------------------------------------

    Most option exchanges do not provide midpoint liquidity, and
marketable orders routed to the limit order book can only be executed
at the NBBO prices when there is no price improvement order present.
The Nasdaq Option Exchange first introduced an order type called price
improvement order which allows market participants to enter the order
at a non-displayed limit price within the NBBO spread at 1 cent
increments regardless of the tick size of the option series. Marketable
customer orders are able interact with the resting price improving
orders and receive better prices than the prevailing NBBOs.
b. Retail Order Handling in Options
    The Commission understands the majority of retail orders for
options are handled by wholesalers.\438\ Rule 606 data from Q1 2022
show that all but one of the top 15 retail options brokers routed all
of their non-directed \439\ orders from customers to wholesalers. Some
of this flow is routed directly to wholesalers, while some goes through
a third-party clearing firm, but is at some point handled by at least
one wholesaler. Sometimes retail brokers do route to exchanges, either
directly or through a third-party firm.
---------------------------------------------------------------------------

    \438\ See supra section III.A.
    \439\ According to the Rule 606 filings for the top 15 retail
brokers for listed options, on average non-directed orders made up
around 99.13% of all retail orders in Q1 of 2022.
---------------------------------------------------------------------------

    Table 10 summarizes order routing choices of 45 major retail
brokers for non-directed orders for listed options. Routing decisions
are summarized

separately for 23 retail brokers who accept PFOF from wholesalers or
clearing firms in option markets (PFOF brokers) and those who do not
(non-PFOF brokers). Within each category of brokers, routing statistics
for each order type \440\ is reported separately.
---------------------------------------------------------------------------

    \440\ See supra section V.C.2.e.i.
---------------------------------------------------------------------------

    Similar to results for NMS stocks, the composition of order types
differ between non-PFOF and PFOF brokers. Market orders and marketable
limit orders comprise a smaller proportion of orders routed by non-PFOF
brokers than PFOF brokers. For example, market orders make up 9.97% and
14.60% of non-directed orders of non-PFOF and PFOF brokers,
respectively. Consequently, the non-marketable limit order type and
other order type make up smaller shares of orders routed by PFOF
brokers.
    Non-PFOF brokers route a significantly lower fraction, 46%, of
their customer orders to wholesalers, compared to over 99% of customer
orders that PFOF brokers route to wholesalers. Additionally, Non-PFOF
brokers also route 17% of customer orders to clearing firms, whereas
essentially no orders from PFOF brokers are routed in this manner.
Finally, as an alternative to the previously mentioned routing choices,
Non-PFOF brokers route a significantly higher fraction, 38%, of
customers' orders directly to the exchanges than PFOF brokers, which
route less than 0.1% of the order flow to the exchanges.

                     Table 10--Retail Broker Order Routing in Listed Options for March 2022
----------------------------------------------------------------------------------------------------------------
                                                                       Non-
                                      Market        Marketable      marketable         Other           Total
           Venue type                (percent)         limit           limit         (percent)       (percent)
                                                     (percent)       (percent)
----------------------------------------------------------------------------------------------------------------
                                             Non-PFOF Retail Brokers
----------------------------------------------------------------------------------------------------------------
Clearing firm...................            4.49            1.46           10.62            0.27           16.84
Exchange........................            0.01            0.44            5.47           31.70           37.61
Wholesaler......................            5.48            7.88           47.14           35.01           45.55
                                 -------------------------------------------------------------------------------
    Total.......................            9.97            9.25           51.18           20.66          100.00
----------------------------------------------------------------------------------------------------------------
                                               PFOF Retail Brokers
----------------------------------------------------------------------------------------------------------------
Clearing firm...................            0.00            0.00            0.02            0.01            0.04
Exchange........................            0.00            0.00            0.06            0.01            0.07
Wholesaler......................           14.59            8.19           44.71           32.41           99.90
                                 -------------------------------------------------------------------------------
    Total.......................           14.60            8.20           44.78           32.42          100.00
----------------------------------------------------------------------------------------------------------------
This table shows the percentage of market orders, marketable limit orders, non-marketable limit orders, and
  other orders that retail brokers route to different types of venues in March 2022. Other venues include any
  other venue to which a retail broker routes an order other than a wholesaler or an exchange. Twenty-three
  retail brokers are identified as PFOF retail brokers that receive payments for routing orders in listed
  options to wholesalers or clearing firms. Twenty-two non-PFOF retail brokers are identified as retail brokers
  that do not receive monetary compensation when they route orders in listed options to wholesalers. The reports
  are aggregated together using a weighting factor based on an estimate of the number of orders non-directed
  orders each broker-dealer routes each month. The number of orders is estimated by dividing the number of
  market orders a retail broker routes according to a CAT analysis by the percentage of market orders the retail
  broker routes for March 2022.

    Similar market forces that drive internalization of orders in the
equity markets exist in option markets as well.\441\ In the options
market, internalization \442\ can occur on the limit order book or
through price improvement auction mechanisms.\443\ Internalization on
the limit order book requires the wholesalers' own quotes to be at the
NBBOs, and some exchanges develop certain features (e.g., specialist
model) \444\ to facilitate and improve the internalization rate. From
the Consolidated Audit Trail data for March 2022, the Commission
estimates that wholesalers internalize 70.6% of the single-leg orders
routed to the price improvement auctions and 19.1% of the single-leg
orders routed to the limit order books.\445\ For multi-leg orders, the
internalization rates are 82.4% and 9.27% respectively.\446\ Combining
single-leg and multi-leg orders, the Commission estimates wholesalers
internalize around 31% of the executed orders routed to the option
exchange: 73% of orders routed to price improvement auctions and 17% of
orders routed to the limit order book.\447\
---------------------------------------------------------------------------

    \441\ See supra section V.B.3.i.(d).
    \442\ In contrast to the market for NMS Stocks, NMS options are
typically internalized after being sent to an exchange. Broker-
dealers wishing to internalize orders are able to use the rules of
exchanges to internalize some orders completely, through routing to
affiliated market makers (partial internalization), or through price
improvement auctions (partial internalization), which offer
competition advantages over competing market participants.
    \443\ Price improvement auctions can be used by institutional
broker-dealers to seek price improvement opportunities for their
institutional clients' orders as well. Some exchanges have developed
auctions for large orders with an ``all-or-none'' feature.
    \444\ ``Specialist model'' is a general term. The term to
describe a ``specialist'' varies by exchange. Some exchanges may
formally call this ``Designated Market Marker,'' or other similar
terms.
    \445\ A single-leg order involves buying or selling a single
options series. For example, buying a call option on XYZ stock with
a strike price of $5.00.
    \446\ A multi-leg order involves buying or selling multiple
options series simultaneously. For example, buying a call option on
XYZ stock with a strike price of $5.00, and, in the same order,
selling a call option on XYZ stock with a strike price of $10.00.
    \447\ The internalization rate measure throughout this paragraph
is based on the contract volume. A given customer's order can be
partially internalized. For example, suppose a wholesaler routes an
order with 10 contracts to a price improvement auction and is
allocated 7 contracts after the auction concludes, then the
wholesaler is deemed as internalizing 70% of the order.

                           Table 11--Execution Protocol and Allocation of Limit Order
                                           [Book by options exchange]
----------------------------------------------------------------------------------------------------------------
                Group                         Exchange            Specialist        Auction          Pro-rata
----------------------------------------------------------------------------------------------------------------
BOX.................................  BOX....................               Y                Y                Y
CBOE................................  CBOE C2................               N                N                Y
                                      CBOE...................               Y                Y                Y
                                      CBOE BZX...............               N                N                N
                                      CBOE EDGX..............               N                Y                Y
MIAX................................  MIAX...................               Y                Y                Y
                                      MIAX Emerald...........               Y                N                Y
                                      MIAX PEARL.............               N                N                N
Nasdaq..............................  Nasdaq BX..............               Y                Y                Y
                                      Nasdaq GEMX............               Y                Y                Y
                                      Nasdaq ISE.............               Y                Y                Y
                                      Nasdaq MRX.............               Y                Y                Y
                                      Nasdaq NOM.............               N                N                N
                                      Nasdaq PHLX............               Y                N                Y
NYSE................................  NYSE American..........               Y                Y                Y
                                      NYSE Arca..............               N                Y                N
----------------------------------------------------------------------------------------------------------------

    To internalize a given customer's marketable order on the exchange
limit order book, the wholesaler needs to provide a quote that is at
the NBBO.\448\ This form of internalization may not yield complete
internalization of the order because there could be quotes from other
market makers, some of whom are quoting at the same price and may have
priority over the wholesaler (e.g., the other market makers will have
priority if the wholesaler joins the NBBO set by other market makers in
a price-time priority exchange or they quote with a larger trading
interest than the wholesaler in a pro-rata exchange). Being a
specialist enables the wholesaler to further internalize more orders
more than a pro-rata allocation model would allow.\449\ Some exchanges
appoint a firm to be the specialist for each equity option class.
According to Table 11, 10 out of 16 option exchanges adopt the
specialist model for quoting and executing single-leg orders on the
limit order book. The specialist has greater quoting requirements than
other exchange members or market makers. To compensate specialists for
continuous provision of two-sided quotes to match buyers and sellers,
the exchanges reward specialists by allowing the specialist to receive
a greater allocation (40%+) of incoming orders if they are at the NBBO
and/or provide them with a guarantee of 100% allocation of orders of 5
contracts or less (the ``five-lot rule''). Some exchanges allow
executing brokers to route customers' orders in the form of directed
orders to the affiliated market makers with heightened allocation
(40%+) and small order guarantees with 100% of the orders of one
contract. According to the table, all exchanges that adopted the
specialist model are pro-rata exchanges, meaning that trading interests
are allocated based on the size of the quote in proportion to the total
depth on the NBBO. Therefore, when wholesalers are also specialists,
wholesalers may receive a disproportionate allocation of the customer
order, even though, as the specialist, the wholesaler might not be
providing the most depth at the best prices. A recent academic study
\450\ shows that the execution quality is worse for specialists who pay
PFOF than the specialists who do not: the realized spreads for the 400
to 500 share orders, which can be fully internalized by the
specialists, are 3 basis points higher when the specialists pay PFOF
compared to when the specialists do not pay PFOF, suggesting that the
process is not fully efficient.
---------------------------------------------------------------------------

    \448\ Internalizing a customer's non-marketable limit order with
a price between the prevailing NBBO spread would require the
wholesaler to route the customer's order to the limit order book
first and then submit an immediate-or-cancel order to fill the limit
order. The internalization rate may not be 100% since other market
makers can react to the limit order after the exchange books the
book in the limit order book.
    \449\ All the exchanges that appoint specialists are pro-rata
exchanges. In a pro-rata exchange, allocations are proportional to
the trading interests at the best prices for each options series.
    \450\ See Ernst & Spatt, supra note 77.
---------------------------------------------------------------------------

    Another way to internalize customer orders without being a
specialist is through price improvement auctions. Some option exchanges
\451\ provide two-sided price improvement mechanisms for both single-
leg and multi-leg orders originated from customers. To start a price
improvement auction (PIA), the affiliated market maker (``MM'') of an
executing broker usually submits a two-sided order representing a
customer's order and its own ``contra'' order, which is on the opposite
side of the customer's order, to the exchange. The PIA usually lasts
for 0.1 seconds, during which time, the exchange would expose and
broadcast the customer order to other exchange members (competing
market participants) for price improvement opportunity over the current
NBBO price, and the competing market participants then submit
responding orders to the auction to the exchange. After the PIA
concludes, the allocation of the execution will begin with the best
price received from the contra order and responding orders and end with
the price where the remaining volume of the customer's order will be
filled. In addition to the previously mentioned benefits to
specialists, option exchanges have developed certain arrangements or
schedules to give wholesalers advantages to conduct operations on the
exchange by further facilitating the ability of wholesalers to
internalize the customer orders they receive through the auctions. Such
preferential advantages include, but are not limited to the following:
(1) asymmetric fee schedule in which initiating MMs pay a much smaller
transaction fee than competing market participants, (2) price auto-
match in which the exchanges allow the PIA initiating exchange members
to match the best price among the responding orders from the competing
market participants, and (3) guaranteed allocation in which the
initiating exchange members are allowed to execute at least 40% of the
customer's order exposed in a PIA. Academic studies suggest that the
preferential treatment of wholesalers provided by the exchanges leads
to less

than fully competitive liquidity provision in auctions.\452\
---------------------------------------------------------------------------

    \451\ According to Table 11, 10 out of 16 option exchanges
provide price improvement auction mechanisms to wholesalers and
other executing brokers.
    \452\ See supra note 450 and see also Terrance Hendershott, Saad
Khan, & Ryan Riordan, Option Auctions, (Working paper, May 15, 2022)
available at https://papers.ssrn.com/sol3/Papers.cfm?abstract_id=4110516 (retrieved from Elsevier database).
---------------------------------------------------------------------------

iii. Payment for Order Flow in NMS Securities \453\
---------------------------------------------------------------------------

    \453\ See infra section V.B.3.(c) for a discussion of PFOF in
the market for crypto asset securities.
---------------------------------------------------------------------------

    Rule 10b-10(d)(8) defines payment for order flow as any monetary
payment, service, property, or other benefit that results in
remuneration, compensation, or consideration to a broker or dealer from
any broker or dealer, national securities exchange, registered
securities association, or exchange member in return for the routing of
customer orders by such broker or dealer to any broker or dealer,
national securities exchange, registered securities association, or
exchange member for execution.\454\ PFOF includes any payments from a
wholesaler to a retail broker-dealer in return for order flow. It also
includes any exchange rebates paid to a broker-dealer in return for
sending orders to the exchange. PFOF has the potential to adversely
affect routing decisions to the extent it is not directly passed on to
the customer.\455\ However, it is also possible that there is a
tradeoff between PFOF and execution quality that does not adversely
affect order routing decisions.
---------------------------------------------------------------------------

    \454\ See supra note 43 for discussion of payment for order flow
definition under Rule 10b-10(d)(8). In certain circumstances,
broker-dealers are required to disclose their PFOF arrangements. For
example. Rule 10b-10 requires extensive disclosures in
confirmations, including specific disclosures about PFOF.
Additionally, Rule 606 reports require the disclosure of PFOF
arrangements and the average PFOF rates broker-dealers receive on
non-directed orders in NMS stocks and options for routing orders to
a trading venue.
    \455\ FINRA has stated that obtaining price improvement is a
heightened consideration when a broker-dealer receives payment for
order flow and it is especially important to determine that
customers are receiving the best price and execution quality
opportunities notwithstanding the payment for order flow. See FINRA
Regulatory Notice 21-23, supra note 294.
---------------------------------------------------------------------------

    Studies have found that PFOF may adversely affect order execution
quality. For example, one study looked at the effect of exchange
rebates in the routing of non-marketable limit orders in the equities
markets and found evidence that broker-dealers tend to route customer
orders to the venues that pay high rebates, but offer lower execution
quality in the form of lower fill rates and longer times to order
execution.\456\ Similarly, in the options market, a study \457\ finds
that some brokers tend to route non-marketable limit orders for listed
options to exchanges that offer large rebates. The study's analysis
indicates that non-marketable limit orders routed to exchanges that pay
higher liquidity rebates receive worse execution quality than non-
marketable limit orders routed to exchanges that do not offer liquidity
rebates. One study finds no relation, potentially as a result of low
statistical power.\458\ Evidence on the potential adverse effects
appears stronger in the options market than in the equity market.\459\
Section V.B.3.(a).iii.a presents Commissions analysis.
---------------------------------------------------------------------------

    \456\ See, e.g., Robert H. Battalio, Shane A. Corwin & Robert H.
Jennings, Can Brokers Have It All? On the Relation Between Make-Take
Fees and Limit Order Execution Quality, 71 J. Fin. 2193 (2016),
available at https://onlinelibrary.wiley.com/doi/10.1111/jofi.12422/full (``We identify retail brokers that seemingly route orders to
maximize order flow payments by selling market orders and sending
limit order to venues paying large liquidity rebates. . . . [W]e
document a negative relation between limit order execution quality
and rebate/fee level. This finding suggests that order routing
designed to maximize liquidity rebates does not maximize limit order
execution quality. . . .'').
    \457\ See, e.g., Robert Battalio, Todd Griffith & Robert Van
Ness, Do (Should) Brokers Route Limit Orders to Options Exchanges
That Purchase Order Flow?, 56 J. Fin. Quan. Anal. 183 (2020).
    \458\ See Christopher Schwarz, et. al., The `Actual Retail
Price' of Equity Trades (Working paper, September 14, 2022)
(``Schwarz''), available at https://ssrn.com/abstract=4189239
(retrieved from Elsevier database) do not find a relationship
between the amount of PFOF a retail broker receives and the amount
of price improvement their customers' orders receive. However, see
infra note 466 for a discussion comparing the results in Table 16.
    \459\ See Ernst & Spatt, supra note 77, at 1 (``We exploit
variation in the Designated Market Maker (DMM) assignments at option
exchanges to show that retail traders receive less price
improvement, and worse prices, from those DMMs who pay PFOF to
brokers.''). The paper also finds PFOF amounts from wholesalers in
the NMS stock market are small (compared to the options market) and
that individual investor orders executed at wholesalers receive
meaning price improvement.
---------------------------------------------------------------------------

a. PFOF Amounts and Rates
    Table 12 summarizes information on PFOF payments in NMS Stocks and
Options for Q1 2022 received by 52 retail broker-dealers and aggregated
based on the order type and type of trading venue.\460\ Wholesalers
paid more than $750 million dollars, about 94% of the total PFOF
payments of approximately $850 million. Note also that PFOF for options
represent the largest share of these payments (70%), equal to more than
$550 million. In addition, PFOF for non-S&P 500 orders was about 24% of
total wholesale PFOF disbursements, substantially larger than the 6%
share of PFOF paid for S&P 500 orders. Finally, note that wholesaler
PFOF for marketable orders (market and marketable limit orders) was
equal to 51% of all wholesaler PFOF, while PFOF for non-marketable
limit orders equaled about 38% of wholesaler PFOF disbursements.
---------------------------------------------------------------------------

    \460\ The PFOF data was aggregated from Rule 606 reports from
the 52 retail brokers. The order types are based on those included
in Rule 606 reports. Other Trading Venues includes any other trading
center to which a retail broker routes an order other than a
wholesaler or an exchange, including ATSs. See supra note 404 for
more details on what is included in Rule 606 reports.

  Table 12--Aggregated 606 Payments for Q1 2022 to Retail Broker-Dealers by Venue Type, Asset Class, and Order
                                                      Type
----------------------------------------------------------------------------------------------------------------
                                                                       Non-
                                   Market orders    Marketable      marketable     Other orders        Total
                                                   limit orders    limit orders
----------------------------------------------------------------------------------------------------------------
Wholesalers:
    S&P 500.....................     $20,169,292      $6,861,406     $15,675,087      $4,963,329     $47,669,114
    Non-S&P 500.................      74,313,900      45,711,676      53,253,329      14,502,924     187,781,828
    Options.....................      69,221,438     185,987,581     235,507,979      70,361,954     561,078,951
                                 -------------------------------------------------------------------------------
        Total...................     163,704,629     238,560,663     304,436,395      89,828,206     796,529,894
National Securities Exchanges:
    S&P 500.....................          -2,883      -1,600,326       4,151,796      -1,058,038       1,490,549
    Non-S&P 500.................         -14,624     -13,794,526      24,538,646      -2,224,848       8,504,649
    Options.....................         -54,106       4,838,611      19,019,112      13,334,942      37,138,559
                                 -------------------------------------------------------------------------------
        Total...................         -71,613     -10,556,240      47,709,554      10,052,056      47,133,756
Other Trading Venues:

    S&P 500.....................         -14,335         -87,299         514,713          16,715         429,794
    Non-S&P 500.................          41,513      -1,397,974       1,736,516          -5,007         375,049
    Options.....................         185,367        -305,579       4,740,343         649,611       5,269,742
        Total...................         212,545      -1,790,852       6,991,572         661,319       6,074,585
        Grand Total.............     163,845,562     226,213,571     359,137,521     100,541,581     849,738,235
----------------------------------------------------------------------------------------------------------------
This table shows the aggregate payments made from different types of venues in Q1 2022 to 52 broker-dealer based
  on their Rule 606 reports. The table breaks out payments from exchanges, wholesalers, and other trading venues
  for market orders, marketable limit orders, non-marketable limit orders, and other orders in S&P 500 stocks,
  Non-S&P 500 stocks and Options. Other Trading Venues includes any other trading center to which a retail
  broker routes an order other than a wholesaler or an exchange, including ATSs.

    Table 13, Panel A summarizes the total PFOF dollars paid to the 52
broker-dealers in Q1 2022 based on their total assets. The majority of
payments, more than 750 million dollars, went to broker-dealers with
more than 1 billion dollars in assets. As shown earlier, most of this
payment came from the options market.
    Table 13, Panel B summarizes the distribution of total PFOF dollars
paid to the 52 broker-dealers as a percentage of their total revenue in
Q1 2022. On average, the payments reported on Rule 606 reports
accounted for 21% of the broker-dealer's total revenue. However, there
was considerable variation across broker-dealers. Rule 606 reported
payments accounted for less than 5.9% of total revenue for over 50% of
the broker-dealers in the sample. However, for the top 10% of broker-
dealers by revenue, Rule 606 reported payments accounted for more than
74% their total revenue in Q1 2022.

    Table 13--Rule 606 Report Broker-Dealer Sample and Payments by Asset Size and Distribution of Payments as Percent of Broker-Dealer Total Revenue
--------------------------------------------------------------------------------------------------------------------------------------------------------
                                                                               Size of Broker-Dealer (Total Assets)
                Variable                 ---------------------------------------------------------------------------------------------------------------
                                               >50bn         1bn-50bn        500mn-1bn      100mn-500mn     10mn-100mn       1mn-10mn          <1mn
--------------------------------------------------------------------------------------------------------------------------------------------------------
                                          Panel A: Broker-Dealers and Payments in Rule 606 Sample by Asset Size
--------------------------------------------------------------------------------------------------------------------------------------------------------
Number of Firms in 606 Sample...........              10              20               2              13               7               0               0
Number of Firms with Positive 606                      5              11               1               5               4               0               0
 Payments...............................
606 Total Dollar Payments...............    $323,768,783    $437,613,668          $4,122     $72,400,510     $15,951,151              $0              $0
606 Total Equity Payments...............    $112,360,651    $108,639,249          $4,122     $23,525,311      $1,721,651              $0              $0
606 Total Options Payments..............    $211,408,132    $328,974,419              $0     $48,875,200     $14,229,501              $0              $0
--------------------------------------------------------------------------------------------------------------------------------------------------------
                       Panel B: Distribution of Firm Payments Reported in Rule 606 as Percentage of Broker-Dealers' Total Revenue
--------------------------------------------------------------------------------------------------------------------------------------------------------
                                               Mean           Std Dev        10th Pctl       25th Pctl       50th Pctl       75th Pctl       90th Pctl
--------------------------------------------------------------------------------------------------------------------------------------------------------
606 Total Payments % of Total Revenue...          20.94%          32.31%           0.02%           0.08%           5.82%          28.66%          74.29%
606 Equity Payments % of Total Revenue..           6.67%          11.57%           0.00%           0.02%           1.24%           7.70%          16.23%
606 Options Payments % of Total Revenue.          14.28%          27.52%           0.00%           0.02%           2.52%          17.50%          49.96%
--------------------------------------------------------------------------------------------------------------------------------------------------------
This table summarizes total payments from the Q1 2022 Rule 606 Reports for 52 broker-dealers based on their total assets and total revenue. Panel A
  shows how many broker-dealers fall within each asset size category and the total payments reported on their Rule 606 Reports that they received in the
  equity and options markets from venues to which they routed orders in Q1 2022. Panel B shows the distribution of the equity and options payments as a
  percentage of a firm's total revenue for Q1 2022. Total Assets are estimated by Total Assets (allowable and non-allowable) from Part II of the FOCUS
  filings (Form X-17A-5 Part II) from Q4 2021 and correspond to balance sheet total assets for the broker-dealer. Total Revenue is reported by each
  broker-dealer during Q1 2022 in their FINRA Supplemental Statement of Income Form.

    From the Rule 606 reports of 15 major retail brokers for listed
options, we can infer that as of Q4 of 2020, 11 of them had PFOF
arrangements with wholesalers, one firm routed the orders directly to
the exchanges, one firm routed the orders to its parent firm, and the
remaining two firms routed the orders to wholesalers but did not have
PFOF arrangements. According to the Rule 606 reports, wholesalers paid
$560 million in PFOF to the 11 retail brokers for non-directed orders
in listed options in Q1 2022.
    Table 14 presents the average payment rates reported in Rule 606
reports for PFOF broker-dealers in listed options in Q1 2022. The
statistics are further broken down by trading venue and order type,
with rates given in cents per 100 shares.\461\ The average PFOF rates
are negative for the marketable limit orders and other orders routed to
exchanges, but the rate is positive for non-marketable limit orders
suggesting the brokers route most of the non-marketable limit orders to
the maker-taker exchanges to collect rebates. According to the table,
the average PFOF rates paid by clearing firms are smaller but not much
smaller than wholesalers across all order types suggesting that
clearing firms pass majority of the monetary compensation from
wholesalers to the retail brokers with which they have PFOF
arrangements.
---------------------------------------------------------------------------

    \461\ The PFOF rate is missing for the market orders routed
directly to the options exchanges because, according to the rule 606
reports, these brokers neither paid fees nor received rebates from
exchanges for the market orders in Q1 2022.

  Table 14--Average Rule 606 Payment Rates for Q1 2022 to PFOF Broker-Dealers by Venue Type for Listed Options
----------------------------------------------------------------------------------------------------------------
                                                             Marketable limit    Non-marketable
                Venue type                   Market orders        orders          limit orders     Other orders
----------------------------------------------------------------------------------------------------------------
Exchange..................................             N/A               -43.1              42.6           -59.6
Clearing firm.............................            38.4                  33              35.2            39.8
Wholesaler................................            39.9                52.5              51.8            40.4
----------------------------------------------------------------------------------------------------------------
This table shows the average payment rates (in cent per 100 shares) made from different types of venues in Q1
  2022 to 23 broker-dealers that received PFOF from wholesalers based on their Rule 606 reports. The table
  breaks out average rates from wholesalers and clearing firms for market orders, marketable limit orders, non-
  marketable limit orders, and other orders in listed options. Twenty-three retail brokers are identified as
  PFOF retail brokers that receive payments for routing orders to wholesalers or clearing firms. This analysis
  uses the retail broker-dealer's Rule 606 report if it publishes one or the Rule 606 report of its clearing
  broker if the retail broker did not produce a Rule 606 report itself. The reports are aggregated using a
  weighting factor equal to the PFOF amount.

b. Empirical Relation Between PFOF and Price Improvement
    Although wholesalers provide individual investor orders with price
improvement relative to exchanges, the magnitude of this price
improvement is not uniform across retail brokers.\462\ Analysis in this
section shows that two factors driving variation in the price
improvement wholesalers provide are the amount of PFOF the wholesaler
pays to the retail brokers and the average adverse selection risk posed
by the customers of the retail broker.
---------------------------------------------------------------------------

    \462\ Several recent working papers found that price improvement
varies across retail brokers; see Schwarz, supra note 458, and
Bradford Lynch, Price Improvement and Payment for Order Flow:
Evidence from A Randomized Controlled Trial (Working paper, June 27,
2022), available at https://papers.ssrn.com/sol3/papers.cfm?abstract_id=4189658 (retrieved from Elsevier database)
(``Lynch''). These studies only included trades that were initiated
by the authors, and do not include other trades that were handled by
the brokers in their samples. In contrast, the Commission's analysis
is based on the data reflecting all orders routed by 58 broker-
dealer MPIDs.
---------------------------------------------------------------------------

    Commission analysis presented in Table 15 compares average
execution quality for PFOF and non-PFOF brokers for executed marketable
orders of individual investors under $200,000 in NMS common stocks and
ETF orders that are routed to wholesalers.\463\ Results are divided
between orders that were executed by the wholesaler on a principal
basis (i.e., internalized) and those executed via other methods (the
majority of which are in a riskless principal capacity).
---------------------------------------------------------------------------

    \463\ Some brokers that do not accept PFOF for orders in
equities accept PFOF for orders in options. Certain items in Table
15 may also be affected by MDI Rules once they are implemented. See
supra note 415.

        Table 15--Comparison of PFOF and Non-PFOF Broker Execution Quality in NMS Common Stocks and ETFs
----------------------------------------------------------------------------------------------------------------
                                                      Principal transactions            Other transactions
                                                 ---------------------------------------------------------------
                                                     Non-PFOF          PFOF          Non-PFOF          PFOF
----------------------------------------------------------------------------------------------------------------
Average Price...................................          $41.79          $31.35          $23.90          $12.47
Wholesaler (WH) Share Volume (billion shares)...           14.32           55.96            3.40           13.43
WH Dollar Volume (billion $)....................         $598.44       $1,754.36          $81.23         $167.41
Pct of Executed Dollar Volume...................          23.00%          67.44%           3.12%           6.44%
WH Effective Spread (bps).......................            1.50            1.86            4.57            5.75
WH Realized Spread (bps)........................            0.88            0.85            0.83            0.66
WH Realized Spread Adj PFOF (bps)...............            0.88            0.43            0.83           -0.55
WH Price Impact (bps)...........................            0.62            1.01            3.74            5.07
WH E/Q Ratio....................................            0.30            0.37            0.78            0.67
WH Pct Executed with Price Improvement..........          90.59%          94.32%          46.89%          62.87%
WH Conditional Amount Price Improvement (bps)...            2.75            2.34            2.31            4.30
----------------------------------------------------------------------------------------------------------------
The table summarizes execution quality statistics from the CAT retail analysis in Common Stocks and ETFs based
  on whether the retail broker MPID receives PFOF from wholesalers (PFOF) or does not (Non-PFOF) and whether the
  wholesaler executed the individual investor order in a principal capacity or in another capacity (i.e., in an
  agency or riskless principal capacity). A broker-dealer MPID was determined to be a PFOF broker if the broker-
  dealer reported receiving PFOF on its Q1 2022 606 report, or if the report of its clearing broker reported
  receiving PFOF in the event that the broker did not publish a Rule 606 report. Broker-dealers or clearing
  brokers that handled orders on a not held basis and did not disclose PFOF information in their Rule 606 report
  were classified as PFOF brokers if disclosures on their websites indicated they received PFOF. Twenty-two
  MPIDs belonging to 19 retail brokers were classified as receiving PFOF. The majority of the other transactions
  are executed by the wholesaler in a riskless principal capacity. See supra Table 6 for additional details on
  the sample and metrics used in the analysis. WH Realized Spread Adj PFOF is the estimated realized spread in
  bps earned by the wholesaler after adjusting the realized spread for the estimated PFOF they pay to retail
  brokers.\a\ Share-weighted percentage metrics are averaged together at the individual PFOF-execution capacity-
  stock-week-order-size category level for the wholesaler sample using the methodology in Table 6. Weighted
  averages for the metrics are then calculated for each PFOF-execution capacity category by averaging across
  execution capacity-stock-week-order size category levels based on their total dollar transaction volume during
  the sample period in the wholesaler CAT sample. This analysis uses data from prior to the implementation of
  the MDI Rules and specific numbers may be different following the implementation of the MDI Rules. See supra
  note 415
\a\ See infra note 467 for further details on estimated PFOF retail brokers receive. Realized spreads for
  marketable orders routed to wholesalers are adjusted for PFOF by subtracting the estimated dollar per share
  PFOF rate the retail broker receives from the average per share dollar realized spread in the execution
  capacity-stock-week-order type-order size category and then dividing by the average transaction price to
  calculate the percentage metric as discussed in further detail in supra Table 6.

    The results in Table 15 show that wholesaler internalized orders
(Principal Transactions) originating from PFOF brokers are associated
with (1) higher effective spreads, (2) higher E/Q ratios, and (3)
slightly smaller price improvement on orders that achieved at least
some price improvement (WH Conditional Amount Price

Improvement), relative to wholesaler internalized orders originating
from non-PFOF brokers. However, the results also show that orders
internalized from non-PFOF brokers also have lower adverse selection
risk and similar realized spreads (before PFOF is paid), indicating the
lower adverse selection risk could explain differences in the observed
execution quality.
    Because the results in Table 15 are averages across broker-dealers,
they cannot disentangle the effects of PFOF on execution quality from
differences in the adverse selection risk of different broker-
dealers.\464\ In order to control for these differences, the Commission
analyzed the effects of PFOF and differences broker-dealer adverse
selection risk on execution quality in a regression framework that
controls for other factors that could affect the price improvement
provided by wholesalers.
---------------------------------------------------------------------------

    \464\ They also cannot disentangle the effects of differences in
the stocks traded by PFOF and non-PFOF brokers.
---------------------------------------------------------------------------

    Table 16 displays regression results from Commission CAT retail
analysis of NMS Common stock and ETF orders,\465\ and shows that the
previous results indicating that brokers that receive PFOF receive
inferior execution quality are robust to the inclusion of controls for
differences in the type of order flow coming from different broker-
dealers.\466\ The regression tests whether there is a relationship
between execution quality and the amount of PFOF a broker-dealer
receives and includes several individual stock- and market-level
controls \467\ as well as the retail broker's average price impact and
size (as measured by percent of executed individual investor dollar
volume). Four different measures of execution quality are used for the
dependent variable, including E/Q ratio, effective spread, realized
spread, and price improvement.\468\
---------------------------------------------------------------------------

    \465\ Certain items in this Table 16 may also be affected by the
amendments in the MDI Rules once they are implemented. See supra
note 415.
    \466\ Schwarz et. al., supra note 458, did not find a
relationship between the amount of PFOF a retail broker receives and
the amount of price improvement its customers' orders receive.
However, they noted that the variation in the magnitude of price
improvement they saw across retail brokers was significantly greater
than the amount of PFOF the retail broker received, which could
indicate their sample was not large enough to observe a
statistically significant effect. Similarly, when we examine
variation in effective spreads across retail brokers based on their
average price impact (i.e., their average adverse selection risk),
we observe that the differences between the effective spreads of
PFOF and non-PFOF brokers as shown in Table 15, infra, are
significantly smaller than the differences observed across retail
brokers based on variation in their average price impacts. Lynch,
supra note 462, compares the execution quality of similar orders
routed to two different retail brokers that receive different
amounts of PFOF from wholesalers. The study finds that the retail
broker that received a greater amount of PFOF from wholesalers
(i.e., had a higher per share PFOF rate reported in their Rule 606
reports) provided less price improvement compared to a similar order
routed to a retail broker that received less PFOF. Importantly, both
studies only included trades that were initiated by the authors and
do not include other trades that were handled by the brokers in
their samples, preventing them from examining the attributes of a
typical retail order handled by each broker. As such, these studies
do not observe the variation in price improvements that reflect
differences in the adverse selection risk associated with the order
flow of different brokers, and hence, likely conflate the impacts of
PFOF with those of adverse selection risk. That is, these studies
cannot control for the possibility that a wholesaler would offer
smaller price improvement to order flows with higher adverse
selection risk. In contrast, the Commission relies on CAT data to
examine the adverse selection risk at the broker level, which is a
determinant of the amounts of price improvements that a given
wholesaler would offer to different brokers. The regression
framework in infra Table 16 controls for the adverse selection risk
of the retail broker and finds that is has a negative relationship
with the magnitude of price improvement their customers' orders
receive. We also find a negative relationship between the amount of
PFOF a broker-dealer receives and the magnitude of the price
improvement their customers' orders receive after controlling for
the retail broker adverse selection risk.
    \467\ Broker-dealer cents per 100 shares PFOF rates (dollar PFOF
rates) are determined from their Q1 2022 Rule 606 reports (see supra
Table 2) or the Rule 606 reports of its clearing broker reported
receiving PFOF in the event that the broker did not publish a Rule
606 report. A PFOF rate of 20 cents per 100 shares was used for the
introducing broker-dealers and clearing broker that reported handled
orders on a not held basis and did not disclose PFOF information in
their Rule 606 report but disclosed on their website that they
received PFOF for their order flow. 20 cents per 100 shares was the
PFOF rate that the clearing broker that handles orders on a not held
basis disclosed on their website that they received. Twenty-two
MPIDs belonging to 19 retail brokers were classified as receiving
PFOF. Dollar PFOF rates for each retail broker were merged with the
corresponding stock (S&P 500 and non-S&P 500) and order type in the
CAT sample. For the regressions in Table 16, percentage PFOF rates
are estimated in basis points by dividing the PFOF cents per 100
share values from Rule 606 reports (after converting them to dollar
per share values) by the stock-week VWAP for the security in the CAT
sample. Stock-level controls include average share volume, VWAP,
return, average effective spread, average realized spread, and
average quote volatility during a week. Market-level controls
include market volatility, market return, and the market's average
daily trading volume during week.
    \468\ The regression also includes variables to control for
differences in execution quality across different wholesalers and
across different order size categories. The analysis examines trades
in Q1 2022 that wholesalers execute in a principal capacity from
market and marketable limit orders from individual investors that
are under $200,000 in value and are in NMS Common Stocks and ETFs.