A Significant Development for Broker-Dealers Quoting Fixed Income Securities

As a follow-up to our prior discussion in this area, this article addresses a recent exemption issued to the New York Stock Exchange ("NYSE") by the Securities and Exchange Commission ("SEC") that allows for increased trading of fixed income securities on NYSE Bonds, an electronic order-driven matching system for fixed income securities, subject to certain conditions. This article also discusses how the exemption can facilitate expanded use of the exception in Rule 15c2-11(f)(1) to publish over-the-counter ("OTC") quotations for those securities.

In particular, and as discussed below in more detail, if a fixed income security is admitted to trading on an exchange and has traded on the exchange on that day or the preceding day, a broker-dealer may rely on the exception in Rule 15c2-11(f)(1) to publish OTC quotations for securities traded on NYSE Bonds without verifying that the other terms of the Rule or the 2024 no-action letter, discussed below, are satisfied. Such firms should consider updating their written supervisory procedures and related supervisory controls to avail themselves of this exception and to assess whether these changes impact the firm's best execution obligations.

Background

Rule 15c2-11 ("Rule") under the Securities Exchange Act of 1934 ("Exchange Act") "governs the publication and submission of quotations by a broker-dealer in a quotation medium for securities that are not listed on a national securities exchange,"[1] i.e., in OTC markets. Beginning around 2019, a long-dormant feature of the Rule was reawakened when the SEC proposed significant amendments to the Rule and requested comment on whether the publication of quotations for debt securities should be excepted from the Rule's coverage.[2] This surprised the broker-dealer community because 20 years previously the SEC recognized that broker-dealers publishing quotations for debt securities had not focused on the Rule's application to fixed income securities,[3] and the SEC had said and done very little on the subject since then.[4] In 2020, the commission adopted substantial amendments to the Rule but did not address the debt question.[5] Thereafter, it became clear from informal discussions with SEC Staff that the Rule would be applied to fixed income securities.

At that point, broker-dealers contemplated four principal possibilities, in descending order of preference:

1. Obtain an exemption from the Rule for fixed income securities;
2. Explore the use of exceptions already in the Rule for quotations for fixed income securities;
3. Obtain a no-action letter from the SEC Staff that would accommodate quotations for fixed income securities; and
4. Develop controls that would satisfy the amended provisions of the Rule.

It became clear that a blanket exemption was very unlikely. Existing Rule exceptions were of limited utility for publishing proprietary quotations for fixed income securities.[6] The fourth alternative was unpalatable because gathering publicly available information was difficult or impracticable in the case of many debt issuers. That left the no-action letter alternative as the most promising.

In response to the industry's concerns, the Staff issued a series of no-action letters ("NALs") stating that it would not recommend Enforcement action to the SEC if a broker-dealer satisfied one or more of the specific criteria listed in the NAL when publishing quotations for fixed income securities.

Criteria Listed in the NALs

In the context of responding to requests for no-action positions, the Staff declared: "[s]ince its original adoption in 1971, the Rule has applied to all securities including fixed income securities" with specific exceptions.[7] The first NAL was issued on September 24, 2021, and had an expiration date of January 3, 2022.[8] Certain provisions of the December 2021 NAL had expiration dates in 2023 and 2024. The 2022 NAL had an expiration date of January 4, 2025.

Concerns and difficulties persisted, especially regarding the market for fixed income securities sold pursuant to the exemption from registration in Rule 144A under the Securities Act of 1933, which pertains to Qualified Institutional Buyers ("QIBs"), whose sophistication and acceptable risk tolerance distinguishes QIBs from retail investors under the federal securities laws. As a result, the SEC issued an exemption from the requirements of the Rule with respect to Rule 144A fixed income securities.[9] In late 2024, the Staff replaced the 2022 NAL with a modified no-action position that eliminated the reference to Rule 144A securities and clarified the application to fixed income securities of wholly owned subsidiaries of a company for which information required by the Rule is current and publicly available.[10] That NAL has no expiration date.

The 2024 NAL retains the essential requirementthat a broker-dealer intending to publish quotations for a fixed income security in a quotation medium[11] ascertain that information about the issuer is publicly available. The 2024 NAL provides alternative ways that a broker-dealer can satisfy that requirement. The alternatives require the broker-dealer to verify that the issuer of the fixed income security fits within one of the eight categories described in the NAL.[12]

Another Compliance Option: Exception (f)(1)

The thrust of the NALs reflect the main objective of the Rule requiring broker-dealers to ascertain that certain information about the issuer of a quoted security is publicly available to investors by gathering and reviewing specified information.[13] Rule 15c2-11(f), however, contains a variety of exceptions to the information gathering and review requirements. In particular, Rule 15c2-11(f)(1) states that the Rule does not apply to "the publication of a quotation for a security that is admitted to trading on a national securities exchange and that has traded on such an exchange on the same day as, or on the business day next preceding, the day the quotation is published or submitted" ("Exception (f)(1)").

Accordingly, if a fixed income security is admitted to trading on an exchange and has traded on the exchange on that day or the preceding day, a broker-dealer may rely on Exception (f)(1) to publish OTC quotations for that security without verifying that the other terms of the Rule or the 2024 NAL are satisfied.

Fixed Income Trading and the 2025 Exemption Order

Historically, the number of fixed income securities traded on national securities exchanges has been limited. One of the reasons for that is Section 12(a) of the Exchange Act that makes it unlawful for broker-dealers to trade any non-exempt security on a national securities exchange unless a registration is effective as to such security for such exchange pursuant to Section 12(b) of the Exchange Act. Issuers likely have little incentive to register their debt securities for trading on an exchange because the debt can freely trade in the OTC markets without registration.[14] The SEC has recognized that this places exchanges at a competitive disadvantage with OTC markets in the fixed income space.[15]

To address this "disparate regulatory treatment," the SEC granted an exemption to the NYSE in 2006 to permit broker-dealers to trade debt securities not registered under the Exchange Act on the NYSE's bond trading system, now known as NYSE Bonds, subject to conditions.[16] One of the conditions was that the issuer of the debt security (or the parent of a wholly owned subsidiary) has at least one class of common or preferred equity securities registered under Section 12(b) and listed on the NYSE. In April 2024, the NYSE requested an amendment to the 2006 Exemption to permit debt securities to trade on NYSE Bonds if their issuer (or the parent of a wholly owned subsidiary) has a class of common or preferred equity securities listed on any national securities exchange.[17] On February 26, 2025, the SEC granted the NYSE's request subject to conditions largely reflective of the conditions in the 2006 Exemption with an additional undertaking: "the NYSE will monitor daily the delistings of equity securities of each issuer whose debt securities are listed for trading on NYSE Bonds or the securities of the parent of a wholly-owned subsidiary issuer of the debt security."[18]

According to the NYSE, at the time of its request to expand the 2006 Exemption, more than 1,000 CUSIPs representing a notional value of about $464 billion, were listed on NYSE Bonds and more than 7,000 CUSIPs, representing a notional value of about $840 billion, were traded on NYSE Bonds.[19] However, the universe of corporate bonds trading electronically on NYSE Bonds and on Alternative Trading Systems ("ATS"s) was approximately 62,000 CUSIPs with a notional value of over $10 trillion.[20] The NYSE asserted that the requested exemptive relief to expand the universe of securities eligible to trade on NYSE Bonds to debt securities of issuers that have securities listed on any national securities exchange (i.e., Nasdaq) would provide significant benefits to investors and the markets.[21]

Expanded Availability of Exception (f)(1)

The expanded exemption for NYSE Bonds has the potential to allow broker-dealers to quote and trade a significant group of fixed income securities without being obligated to address the requirements of Rule 15c2-11. First, fixed income securities that are listed and quoted on NYSE Bonds are not subject to the Rule. Second, fixed income securities that are admitted to trading on NYSE Bonds pursuant to the 2025 Exemption Order can qualify for Exception (f)(1).[22]

Although the 2024 Notice and the 2025 Exemption Order discuss the apparent competitive disparity in the trading of fixed income securities, neither discusses the potential impact of the exemption with respect to Rule 15c2-11. That is interesting because the ability of broker-dealers to publish quotations in the OTC markets for fixed income securities traded on NYSE Bonds is governed by the Rule. As discussed above, the application of the Rule to quotations for fixed income securities is of great concern to the broker-dealer community. If broker-dealers can reduce or eliminate the burdens associated with the Rule, they will be able to participate more actively in fixed income quoting and trading, which could enhance liquidity for such fixed income securities.

Exception (f)(1) provides such an opportunity. As discussed above, the exception has two elements: (1) the security must be admitted to trading on a national securities exchange;[23] and (2) the security must have traded on the exchange on the same day that the OTC quotation is published or the preceding business day. The 2025 Exemption Order expands the universe of securities that can be admitted to trading on NYSE Bonds,[24] a facility of the NYSE, and that satisfies the first element. In addition, as described by the NYSE, NYSE Bonds disseminates last sale prices as they occur and bid and ask quotations, and this information is available through multiple market data displays with direct "instantaneous" access to the data throughout each trading day.[25] Therefore, broker-dealers can determine if a bond has traded on NYSE Bonds any particular day, thereby facilitating satisfaction of the second element. Where both elements are satisfied, broker-dealers may publish OTC quotations unfettered by the Rule.

How Does Exception (f)(1) Compare to the 2024 NAL?

Exception (f)(1), together with the 2025 Exemption Order, bear some similarities to the 2024 NAL. For example, the first option in the 2024 NAL permits a broker-dealer to publish a quotation for a fixed income security if the issuer of that security also has a class of equity or debt securities that is listed on a national securities exchange, for example, on the NYSE or Nasdaq. This, however, requires the broker-dealer to continually monitor listings and delistings on the exchanges. In contrast, the 2025 Exemption requires the NYSE to identify on NYSE Bonds and the NYSE's website whether a particular security is "listed" or "traded" on NYSE Bonds and monitor daily the delistings of equity securities of each issuer (or parent in the case of a wholly-owned subsidiary) whose debt securities are eligible for trading on NYSE bonds.[26] The NYSE's monitoring of delistings that would make the issuer's debt securities ineligible to trade on NYSE Bonds would greatly facilitate a broker-dealer's determination of whether Exception (f)(1) is available.

Similarly, option 2 in the 2024 NAL permits a broker-dealer to publish quotations if the issuer of the fixed income security is subject to the requirement to file reports pursuant to Section 13 or 15(d) of the Exchange Act and has filed all required reports during the preceding 12 months. Here again, the broker-dealer must monitor the issuer to confirm satisfaction with these criteria. In the context of the 2025 Exemption, however, a condition of a fixed income security being permitted to trade on NYSE Bonds is that the issuer (or parent company) has at least one class of equity security registered under Section 12(b),[27] which entails reporting obligations under Sections 13 or 15(d). Once again, the NYSE is responsible for determining that this element is satisfied.

As a result, Exception (f)(1) has advantages over the 2024 NAL in simplifying compliance with their respective terms.

Conclusion

In summary, it should be relatively easy for a broker-dealer to ascertain from readily available information that a fixed income security admitted to trading on NYSE Bonds satisfies the elements of Exception (f)(1). That would allow the broker-dealer to publish OTC quotations for that security free from the other requirements of the Rule. If the number of fixed income securities admitted to trading on NYSE Bonds increases as a result of the expanded exemption, the utility of Exception (f)(1) will correspondingly increase.

DWT's financial services group regularly provides regulatory counseling advice to clients on complex quoting and trading rule requirements like Rule 15c2-11 in the context of regulatory inquires, exams, and enforcement matters. DWT's attorneys continue to monitor for developments in this space through related enforcement actions and regulatory developments.