Securities Law Blog

Last week, the SEC approved the NYSE’s plans for implementing a tick size pilot program. The program is part of an overall plan being conducted by the national securities exchanges (notably the NYSE and Nasdaq) and FINRA for a two-year test that will widen the minimum quoting and trading increments for stocks of a broad pool of smaller companies. The plan is aimed at promoting more trading and less volatility in small-company stocks.

The pilot program grew out of a requirement of the 2012 JOBS Act and is intended to study whether liquidity and trading volume in small-cap stocks improve if the minimum bid or offer price is expanded to a nickel from a penny. The tick size proposal prepared by the national securities exchanges and FINRA was originally approved by the SEC in May 2015, but implementation was delayed in order to give participants additional time to file requisite rule proposals with the SEC related to the pilot program’s quoting and trading requirements and to develop and test applicable trading and compliance systems.

The pilot program, which will start in October 2016 and run for two years, applies to the common stock of companies with market capitalizations of up to $5 billion, an average trading volume of up to 1 million shares and a price of up to $2.00 per share. The pilot program will separate certain small-cap stocks into a control group and three test groups. Shares in the test groups will be allowed to be quoted in increments of five cents and to trade at the price offered by the buyer, the seller or at the midpoint of the two.

In 2001, increments were reduced from $0.0625 to $0.01 per share. While the shift to tighter bid/ask pricing was initially viewed as a benefit for retail investors, the implementation of decimalization may have caused other unintended results. Studies have raised questions as to whether the shift to quoting and trading in one penny minimum price increments may have reduced incentives for underwriters to pursue public offerings of smaller companies, limited the publication of sell-side research for small- and mid-cap companies and made it less attractive to become a market maker in the shares for these smaller companies. Many believe that wider tick sizes will lead to increased liquidity for shares of small-cap companies and make it easier for larger investment firms to trade their shares. However, there is concern about the potential trading costs to retail investors who have benefited from penny-based trading.  

With this test pilot program, we will see whether a wider tick size will result in more active market making and attract more investors to small-cap stocks. Improved liquidity and market quality would be particularly beneficial for both investors in and issuers of small-cap stocks as these stocks can be difficult and expensive to trade. For now, this program appears to have the support of securities regulators, stock exchanges, brokerage firms, issuers and investors.