Robinhood's Gallagher, BI's Tabb on Gensler's SEC

on all major markets. Our coverage includes over two thousand equities and credits, and we have outlooks on more than ninety industries and one hundred market industries, currencies and commodities. This podcast series examines the intersection of business policy and law. I'm Elliott Stein and analysts with Bloomberg Intelligence covering financials litigation, and.

SEC staff prior to being appointed commissioner. Dan's previous experience also includes serving as the chief legal officer at my Land, a leading global pharmaceutical company, and as a president of a financial services consulting firm. Our second guest today is not just a guest, but also a colleague of ours, Larry Tabb. Larry is head of Market Structure Research at Bloomberg Intelligence, and prior to BI, Larry was founder and rest search chairman of TAB Group, the research and strategic

advisory firm focused exclusively on capital markets. Before founding TAB, Larry was vice president of Tower Groups Securities and Investments Practice, and prior to Tower Group, Larry managed business analysis for Lehman Brothers Trading Services division. Larry's markets experience also includes managing operations for the North American Investment Bank of City Bank. So with all that, Dan Gallagher and Larry tab welcome to the Votes and Verdicts podcasts.

a buck, which I did. Got very interested in investing in the late eighties after the crash, and we started a stock market club in high school in Philadelphia where I grew up, and you know, always just had that little that passion for the markets, and so brought the

law and the markets together. By you know, studying securities law, interning at the SEC when I was in law school, and then ultimately getting to Wilmer, Cutler and Pickering, which is one of the predecessor firms to Wilmer Hale, which, as I think you know, was very steeped in SEC regulation. We had all the former directors of all the divisions of the SEC back then in the late nineties, and it was just an awesome place to grow. And as a young SEC lawyer so had some opportunities to go

in house. I went in house real young to fight Serve Securities, which was a clearing firm up in Philly. So I took over a GC there and was there for about a year and a half and oversaw the sale to Fidelity of the firm, and then kind of came back to Wilmer ended up at the SEC working for Commissioner Paul Atkins back in two thousand and six,

and that really opened my eyes. I interned there years before, but being up on the tenth floor working for a commissioner really opened my eyes to you know, all the inner workings, the sausage making of the SEC. So I got, you know, very excited about it, especially at the policy level, worked for Chris Cox, worked in the division of Trading Markets, and then when I was happily ensconced back in private practice, they lured me back to be a commissioner. You know.

I took a ninety percent pay cut, you know, worked just as hard, if not harder, and lost a lot of votes, you know. And along the way though, I made a lot of good connections. One of them was a dear friend of mine, Joe Grunfest, another former SEC commissioner Stanford law professor, who was very close with the founders of Robinhood. And in early nineteen Joe was very adamant that I needed to meet the founders, that it would be a you know, a mutually beneficial relationship if

I met them, and I did. I really liked them. I found them to be very different than how Robinhood and they were being portrayed in the media at the time, especially in Washington. They're just you know, intellectually curious, very smart, very earnest, and ethical. And we hit it off and they asked me to join the board in twenty nineteen, which I did. And then when the chief leagual officer left in twenty twenty, when COVID came on, it was a natural for me to join in this capacity. So

it's been a little over four years. Been a hell of a ride, tons of fun. Love the firm, love what it does. It's mission, you know, for democratizing finance. It's never a dull moment. I can tell you that much.

hell are you guys doing over there? And that's when I kind of decided that technology was a lot more fun than operations, so I moved over to Lehman. Lehman was at that time owned by American Express and Shearson, and they were wanted to kind of have their own infrastructure in the acquisition. Shearson wanted them to use We were a fixed income shop, and they wanted us to use their equity infrastructure. And the time that really didn't

suit us. So I was assigned to kind of look at different systems and then try to help them with some of the decisions. And we wound up actually building our own and come back office system. And after that I wound up running their business analysis business. Then during the meantime, got married, took a couple of years off, you know, out of the industry when my father in law took Ala, and I wound up at the garment center.

When I realized that business, it was around the time and AFT I realized that business really didn't have any future. I figured out, I'll go back to Wall Street. But after working a small business, I found it really hard to go back and work in a big cube farm. So I decided I would go to become a consultant. What does anybody else do you know, they become a consultant. So I wound up actually finding a research firm in

Massachusetts that was doing banking technology research. And they needed to move into capital markets, and I said, oh, I could do that. So I uppeer to Boston worked for those guys for seven years to build out the capital markets and securities investment research business, which was really writing about fintech before fintech was fintech, And so I started covering a lot of the ecns and the online BROKERASCA. This was kind of the mid nineties or early two

thousands when all that was you know, building up. Those guys eventually got acquired by Reuters, who then sold it to my master Card who eventually now it's all part of Gartner Group. And I realized that I could do some of the stuff better myself. So I founded a TAB Group in two thousand and three that had a good seventeen year run, and eventually, you know, selling research, the business model was basically, go talk to the buy side and then sell that information to the cell side.

But the sell side was getting harder and harder to you know, they had harder and harder to pay for research, and eventually, you know, TAB Group restructured.

structures now go trading. All the stuff was cropping up and nobody was really covering it, and nobody really understood it, and so it just became a niche and I've been running there for it ever since. It's been been a great you know, twenty five year you know, thirty year trip.

like it's going to be reproposed. But also this idea of the SEC market structure proposals, I mean, Chairman Gensler comes out and essentially pursues a very aggressive agenda in terms of altering the US markets. And so what I'd love to understand is what are your views on just the general SEC rules and the proposals that you're seeing out there. Do you anticipate Chairman Gensler is going to

finalize any before the election? And you know what improvements because I think I've read so many of robinhood comment letters. What improvements do you think the SEC can do going forward?

called gamification. It's now being called AI. I think that's a marketing's been quite frankly between you and me. But

everything is related to gm ME. That's the genesis. So I have a hard time with all of these rules because I deeply, having lived through gm ME in a very real and serious way, believe that the predicate for these rules is based on a false narrative, right that payment for orderflow, that gamification caused GME, and therefore these rules are going to fix what happened in January of twenty twenty one. That's garbage. What happened in twenty twenty one.

A bunch of folks got together on social media agreed to do something directionally in the markets. They did it, and it had a major impact, right. It wiped out a hedge fund, It did all these other things. But it's as old as time, right since the first Yahoo chat room came out in the nineties. I actually worked on one of the first Internet enforcement cases when I was an intern at the SEC Systems of Excellence. Go

look it up. It was being pumped on Yahoo Finance and I laughed thinking about that because we had one computer terminal in our whole floor at the SEC linked to the Internet, and I went to one of the supervisors and said, if I go on there, they're going to know the SEC's looking. He said, I don't know, give a shot, who cares. Yeah, that's where the SEC was then. But it was the same activity, right. It's

a kind of classic pump and dump type activity. Get lots of people together trying to get them to do the same thing directionally, and then you make money off that. That's what happened. Those are hard cases to bring. So what did the agency do in debt? Instead? It went out and spent not enough time but a lot of resource proposing rules. So in December twenty two you had the four market structure proposals come out. Right now we have one implemented, the six oh five amendments. Those are

largely fine. Larry will have more detailed commentary on that. I'm sure. We hear that tick size is coming here in the next couple months, as well as the best X rule, and we also hear that the the retail auction proposal, which was the most egregious of them all. They're all egregious in their own way. Again, given their pretext to them the retail auction proposal we hear is hitting the scrap heap, which is where it belongs. You know, the notion that Robinhood and other retail brokers would you

have to send all retail orders to an exchange. I think you know it was pure folly to begin with. The comment file destroyed it in a in a very real way, exposed it as not a very unserious proposal. And so it's good that that's off to the side. But we are still waiting to see what tick size looks like and what the impacts are there. I mean, I lived through the tick size when I was an

SEC commissioner. Even these little things that sound mundane and unimportant, they have huge consequences, right, I mean the issuer community. This is the one thing we never think about when we talk about equity market structures. These are companies trading on these exchanges, right, and if you impact the liquidity in their stock, you impact the trading in their stock. They go crazy, right. The CEOs of all these mid cap small cap companies that all of a sudden didn't

have liquidity. If you don't have a secondary market, you can't do secondary offerings and things like that. It really impacts capital information. So we'll see the impact of that best execution. As I told Shair Gensler directly to his face, I thought was just ridiculous. FINRA has had a very well functioning best X rule in place for years. It has a ton of interpretations underneath it, which has helped

the rule function for decades. Rights As markets changed, FINERRA has changed along with it and adopted and you know, new interpretations to allow the rule to work. And it's a rule with teeth. And I think the notion that you know, the SEC needs its own rule, that the official markets regulator, the government, the real governmental market regulator, the SEC needs one, and that finer is just a membership organization is just ridiculous. So we'll see where those

market structure rules play out. I think if best X comes out even close to where it was proposed, I'm positive someone's suing them, and I'm nearly positive they're going to win. So I try not to lose sleep on that one. Predictive analytics, as you said, the chair has come out publicly now and said they're going to repropose. Good for him, you know, I applaud him and to have the humility to recognize how awful that proposal was.

I mean, I gotta tell you I've read and written rules, you know, hundreds, if not thousands of them the SEC. It was the worst written rule I've ever seen. It was like a joke. It was like my seventeen year old did homework assignment and I was looking at it form. It was embarrassing to the agency. The definition of covered technology, which Commissionery way To pointed out in his dissent would

include an abacus, was just completely silly. And by the way, the more macro point the point we drove home in our Robinhood comment letter. If you're at it, technology is the way that we're bringing people into the markets. And there is a national policy of wanting inclusive markets, right, we want retail in our capital markets. It distinguishes us from other countries where they're very wholesale markets and disintermediated.

We want high retail participation. It's good as a national policy, and technology is the way to do that to bring in more people. It makes the provision of retail financial services cheaper. Robinhood was created, you know with that in mind. It's been successful. Right. We have all these customers now because the use of technology is allowed us to provide

low price financial services to folks. And the idea that the SEC is going to say, well, we're worried that the folks being brought in are too stupid to understand what they're doing when they buy half a Tesla share, right, We're going to actually regulate them out of the markets because we're worried that they're too dumb. I find it offensive, I find it counter to national policy, and I'm again I applaud them for saying they got to repropose it.

I don't think they should be doing anything in this space. And I think the fact that they've been calling it an AI rule is just a marketing scheme to make it sound more important after we had the AI takeoff, you know, in the last nine to twelve months. Because really this thing started as a so called gamification rule, and we all have to keep that in mind when and it helps explain why it's so such a bad idea.

list of advanced declines, news items research. Virtually anything that that you know, robinhood puts on their website could possibly be conflicted. And unlike other things, you can't just disclose a way that we possibly be conflicted. That they must either be mitigated or or or eliminated. The whole thing basically would pretty much leave robin Hood as just a place to view your positions and a buy style ticket and that's basically all that robin could and maybe a quote.

It would virtually shut down all all modern you know, brokerage technology, and you.

the market structure rules. You know, we've also seen rules from the SEC on climate change, on you know, the definition of a dealer on you know, the definition of an exchange, on private funds. And we're sort of in this you know, what we like to call a perfect storm where you have a very aggressive regulator sort of running smack into you know, a federal judiciary in particular

that is very concerned with administrative overreach. You know, we recently saw the private funds rule get struck down in the Fifth Circuit. You've obviously been on the inside as an SEC commissioner. You're now on the industry side of things. You know, what do you think the SEC is getting wrong in its approach? What do you think it's getting right in its approach? And what do you think this all means for cher Gensler's legacy at the end of the day.

you know, for a strong and respected SEC. But you know, you got to call a spadeus bade, and they've gotten both the economic analysis critically wrong and they've gotten the legal analysis critically wrong in a way that's not, you know, typical of the agency. I mean, some of the best lawyers in the country have come out of that agency. It's not some sort of backwater regulatory agency where you go for a cushy job. It's where you get the

brightest minds, and they're very intense. I mean I saw no drop off leaving Wilmer, Cutler and Pickering and going into the SEC. The level of intellect and attention was great, and I believe it still exists. But I believe some of the controls internally are being run over roughshot. I think things are being ignored on the cost benefit side. From the memo that Mary Shapiro when I was on the Commission, made public in twenty twelve demanding a rigorous

you can analysis. None of these rules satisfy that memo. And on the legal analysis side, it's like, you know, clutching it straw some of the stuff Eliott you mentioned, you know, tenuous statutory authority. Look at the predictive analytics rule. What do they cite a statutory authority? A section in nine thirteen of Dodd Frank called other matters, Like literally, you have a whole section, pages and pages and pages that deal with the ability of the sec to promulgate

a fiduciary duty rule for brokers. And then there's a little section called other matters, which is, by the way, like a drafting error from Congress. That section should have been eliminated. It was a legacy Kanjorski bill that had been sitting on the shelf and they just forgot to delete it. Like, yeah, legislation could be sloppy too, just as rules, and that they're going to cling on to that little provision called other matters and say, oh, we

have the authority to ban any conflict. Well, that's garbage. It didn't work in the private fund rule, as the court pointed out, and you know, returning that rule, they cited the same source of authority there. But it's also kind of pathetic to me. It's pathetic that they're sitting around going, oh, gosh, here's a section called other matters. Aha, this is what we need to divine congressional intent, that we can do whatever the hell we want. You know,

I find that pathetic. And guess what, the courts are going to rebuke them for doing things like that. So and I got to say, you know, you asked for Gary's legacy. These losses are no good for the agency. I came on board as a commissioner right after the d C Circuit loss on proxy access, and think about that one. I mean, that was a stinging rebuke of the agency back in twenty eleven. I think it was

twenty eleven. It was months after, months after Dodd Frank, where the then chairman lobbied for authority to be inserted in Dodd Frank to write a proxy access rule. They got it in Dodd Frank. They used it and rushed out a rule that they already had in the can right because they so they kind of retrofitted legislation on it and then ces or get destroyed them. You know, it was like a torpedo on the broad side of

the agency. No rules came out for months and months until we had to figure out a way how do we move forward? You know, how do we comply with the APA? How do we do cost benefit? That gave rise to the memo which ultimately became public, you know, because I think that was good government by Mary Shapiro. And now that now that's like, you know, a forgotten chapter. People are not paying attention to that at all. So I think I.

them to dig. Now, you know, given what's going on. Folks out are coming out of the woodwork, not just brokers, not just exchanges nothing. The byside is getting together and suing the SEC. And so what does that mean. It means that these entities are no longer scared of the Regulator and and and anything that they even come near disliking. They don't have a qualm about, you know, suing them. And and then that you know, drive that further than

what does that do to the agency? It makes them really leary about almost passing anything, which then means well, why even have the regulator begin with h And so I am you know, you know, the SEC over under this chairman has has really gone out on a limb, and I think has sawed itself off to a certain extent. It's going to be very difficult to regain, you know, the prominence or the or the capabilities of the organization.

was delirious. The difference, though, the major difference for Gary was that when he was running the CFTC, he'd spend all this time literally on Capitol Hill, writing Title seven of of Dodd Frank It grant and a very prescriptive and sweeping authority to the CFTC for derivatives, and then he hopped over there and implemented it right, and he had a big piece of legislation on his back and mandates to do the rules, and he bent the industry

to his will, you know, with that impromader from Congress here, he's come to the sec without Congressional mandates, and he's tried to, like I said, clutching at straws, grabbing existing and old and differentiated authorities all over the securities laws and trying to use them for things that are intensely aggressive, not necessarily the will of Congress or the people you know, but things that he and the majority of the commission

want to do for whatever reasons. And this is the consequence of that.

and try to do the right thing. And those are the right thing. Look, when I was at TAB everybody said, oh, you know, you know, you do business with you know, market makers, and you do business with why aren't you biased by market makers? Or you do business with buy it? You know, we did business with everybody, so so no matter what I wrote, people were pissed at me. So so it doesn't mean that I'm influenced by them. I just try to do the right thing and try to

come to consensuss to what's important. I think the SEC is going to need to go back and do that, and by doing that doesn't mean that the industry walks all over investors. The investor sort of big portion of the business, and Dan Robinhood is going to stand up for their client base if they feel disadvantaged. Byside certainly is not going to be silent. So I think you need to go back and try to, you know, retriangulate what's the best thing, you know, for everything.

we're going to be regulating the capital markets differently. Right because because what happened back in twenty twenty one, what was one of the first things this majority did, They said, we're not going to enforce Jake Clayton's proxy advisor rules. They put basically a sweeping no action letter out, which was deemed by the way, by a federal judge to be actually illegal. That's the word that the judge used. But then they went and amended the rule, which of

course was just overturned by the Fifth Circuit. So you can't rely on rules anymore. And you know, it's like, because you're getting every rule is three to two. To Larry's point, you're getting no consensus. You're not bringing in, you know, industries, and so every rule is subject to being overturned and not enforced every four years. And I have to say, I think on the Republican side they've had it right. The view is, oh my god. Every Democrat period of control, they marched the ball down to

the ten yard line. And when Republicans take over, they might bring it back to the fifteen. But on the next drive, the Democrats are bringing it back to the five. There's just constant, you know, incremental increase in regulation. And so I predict, you know, whoever the new person is, if if Trump wins, I think they're going to come in to Larry's point and undo spend a lot of time undoing, which is not easy. You can't just go in and weave your one like they try to in

twenty twenty one. You have to do rulemakings under the APA to undo things that have been done, and then you have to develop, to Larry's point, your own proactive, positive agenda with whatever time you have left. You know, from undoing the damage that's been done, you have to come up with things that actually help capital formation, that help investors. Right, let's have a very positive agenda and those types of things I think will be less susceptible to being overturned.

helping people retire and funding companies. We need to get back to the first principles as so, what the hell are we doing as an industry and we need to, you know, just refocus on on what's really coorn important to the health of the country, not not you know, some some guy buying a half of you know, you know, some guy buying selling a you know, game stock or whatever.

to administration on these rules. The question I have for you actually is, you know, it's obviously going to probably be harder to impose new rules and regulations, and you know, as a result, I wonder, you know, there has been talk amongst some analysts that they expect to see more enforcement actions because rule making is going to become harder. So I wonder if you have any thoughts on that.

And also another question related to Chevron is if you know, if it becomes harder to pass new rules and new regulations, are companies that are sort of not regulated so heavily right now, like non banks or private credit well, they gain a competitive advantage because it's going to be harder to impose new rules and regulations on them.

guess what. We're going to court and I'm going to make it very clear to the judge what you're trying to do and why your existing authority doesn't allow you to do it, and I'm going to win. So I

think that's a you know, a straw man argument. I think what we are looking at is a much more constrained ability of agencies to write rules, much more important for Congress to actually legislate A and then B to legislate clearly right, so to spend more time to do what they're supposed to do and hand down legislation that doesn't require tons of interpretation. You know, I remember in the Jobs Act, right, how much time they spend on the Jobs Act, and you know for the reg d rulemakings.

If you remember, there was a view at the SEC, oh, we need to define what an accredited investment is or how the verification process should work for accredited investors. That's something that had existed in the private market for decades. People knew how to get lists of accredited investors and it worked that way, like it just worked right, but to slow down the process right to put you know, sult in the gears. The SEC staff at the time said, oh, we need a whole big rulemaking on a process for

determining who's an a credit investor. And that was I remember how frustrating it was because Congress was clear, uh, you know, in that role making with what they wanted done or in that legislation what they wanted done. And despite that, you know, we had the agency trying to come up the works and it did. It took a couple of years to get a full room making out, which turned into a principles based process that basically mirrored

what happened in the private markets before that. Anyway, So I think.

they passed the role for the right NMS stuff. You know, everybody thinking a lot if there's a fair amount of consensus that the spreads are too wide for the highly liquid stocks, is a tenth of a cent the right mark? And now probably not? Because a half cent? Yeah, probably.

You know, there are incremental things that can be done to kind of make things better for people that I think that you could possibly get through without a whole lot of fighting and by doing them and staying away from Oh I want to remake the rules because I think the markets would work better. Like well, am, I'd say that, you know, let the industry speak up, let the investors speak up, you know, and then figure out a compromise the works and can be articulated, you know,

throughout the industry. And I think that kind of stuff, Yeah, I think it's more likely to stand than all of a sudden, you know, me like coming down with King Solomon and just writing rules because I want to write rules.

know exactly what falls under shadow banking anymore. But you know, if only you have the authority to police those markets for anti fraud, you're doing pretty well, right. I mean, people always think you need these specialized rules, right look at again, go back to my favorite title seven. Oh my gosh, you have unregulated driven right now. You need to have rules that prescribe the qualifications of the CEO of a swap depository, like dear god, you know you don't.

You really need to make sure there's not fraud in some basic transparency, right, So you know, not having these over elaborate regulatory schemes doesn't mean we have bad markets. You know, the markets tend to police themselves pretty well.

have been done, I would give. And this is going to sound very controversial, I would give serious thought to walking away from a lot of bad litigation that's going on. You know, I think I never have understood when I

was on the commission. Also, I didn't understand this notion that if somebody pushes through a bad rule three two and you had two presidential appointees disagreeing with it, usually vehemently, for usually for very substantive reasons, why there's a presumption that the agency should proceed in litigation if there's been a change of administration, right when that those two become part of the majority. Why in the world would you

defend a rule? But there is this presumption, and it's not written in any rule, but I can tell you I've encountered it up close and personal. Where this idea that you know, when you promulgate a rule comes with that, you know, a an authority from the Commission to also

defend the rule, you know, down to the staff. And I don't believe that, And again I don't wish it on the agency, but I have to say that would be very disruptive, but I think it would be the right thing to do from a policy perspective.

I actually agree with with Chair Gensler. The existing authority does work if you use Section thirty six exemptive authority and you go through all the requirements with a scalpel and you cut through it and you tailor make a package for crypto that said, come in and register on some form we create. Let us examine your books and records, your subject to anti fraud and there's some basic reporting. Is it the best perfect rulemaking?

Think of all the late nineties clearing orders right exempting folks from seventeen cafe registration, you know, foreign platforms and others, right with conditions, right, with media conditions. That's what could have been done. I could do it over a weekend with a six pack of Year and a pizza, you know, Larry and I could sit there and I'd have a rule set ready for you.

fees have been way too high. They need to come down in certain places, but not you know, yeah, not completely across the board, because they really turn into rebates which help the investors, you know, try to figure out how to get you know, we're seeing more and more float traded off exchange. Try to, you know, have folks improve some of the retail liquidity programs, try to coax not force more of Robin Hood's flow into exchanges, but

coax them on there. Uh maybe you know, light up you know some of the you know, the subpenny retail quotes, so people can actually see that there's liquidity interspread things like that. The fixed income side, I think, even though the gov ATS or your rule was written so poorly,

there is a pony there. There, There are there, there, there are you know, we need to create great try to create greater transparency with fixed income pricing, greater data dissemination, more you know, create a more fair regulatory platform for fixed income at SS in exchanges or ats is. Really so there are things to do, and I think that most of the you know, folks in the industry would

agree their things to do. But I think, you know, I would go back, as I said, to to really try to find where you know, you know, go back to consensus, go back to talking with the industry, going back to understand like who's upset and why and how to make it better and not just you know, take the take the you know, the agency and the markets the way I want to go.

to take with you? And it can be, you know, the entire catalog of an artist, or it can be one album or a song or a soundtrack or whatever.