August 9, 2017

Time for Change

Seventy-two years ago today, the United States dropped the second atomic weapon in four days, bringing world war in Asia to dramatic conclusion.

Current relations with North Korea demonstrate the intractability of human nature. While human nature is unchanging, markets are the opposite. Yesterday famed bond investor Jeff Gundlach of DoubleLine Capital declared that his highest conviction trade is a bear bet on the S&P 500 and a bull bet on a higher VIX.

The VIX, the fear gauge, reflects implied volatility in the S&P 500 calculated by the CBOE via options. Everyone is short volatility, Mr. Gundlach says.  It can’t last he says.

Yet intraday volatility – the spread between average high and low prices during the trading day – has reached a staggering 2.9%. That’s 45% beyond the historical average of about 2%.  How can intraday prices reflect savaging by arbitragers while the VIX, predicated on closing prices, signals a placid surface?

One word: Change.  The market has been convulsed by it the past ten years.

Regulation National Market System in 2007 transformed the stock market into a foot race for average price. A year later, the global payments system heaved seismically.  High-frequency trading arced like fireworks on the 4th of July.

For public companies, reporting duties that ramped with Reg FD in 2000 and soared with Sarbanes-Oxley in 2002, were drenched yet more with Dodd-Frank in 2010.

At the same time that companies were being compelled to provide ever more information, investors were shifting by the trillions to indexes and exchange-traded funds that ignore fundamentals. Now, Blackrock, Vanguard and State Street, largely deaf to story, are top ten holders of nearly every US equity.

For public companies it’s been like paying to cater a party for a hundred and having your mom and brother show up. Stuck transfixed, frozen in time from the summer of 1975, was Form 13F.

You didn’t know where I was headed, did you!  Yesterday I had an earnest phone discussion with three professionals from the SEC (I’m leaking this information straight from the source, no anonymity required).  They were good listeners and interlocutors, nice people, and genuinely interested folks.

The discussion happened because I’d earlier sent a note to new SEC Chair Jay Clayton saying there was no more urgent need in the equity market than the modernization of Form 13F. Within a week I heard from two different SEC groups. That says the new SEC chair cares about you, public companies.

I shared my written testimony (thank you, Joe Saluzzi at Themis Trading. None of us would be anywhere without you and Sal.) from the June House Financial Services Committee hearing, highlighting one thing:

It’s been 42 years since we updated disclosure standards for investors.  This is not human nature we’re talking about, something timeless, changeless. It’s keeping up with the times – and we’re not.  The SEC chair who gets these standards current with how markets work is an SEC chair who goes down in history for changing the world.

I said the same to the three SEC staffers. I said, “There is no greater goodwill gesture regulators could extend to companies, which have borne ever higher compliance costs for coming on 20 years now even as the ears of investors have gone deaf, than helping them know in timely fashion who owns, and shorts, shares.”

They said, “Investors will push back.”

I said, “Dodd-Frank orders disclosures of short positions monthly. It hasn’t yet been implemented, and we don’t know what Dodd-Frank will be in coming years. But one thing is clear:  Congress thought monthly short disclosure was fine. Are we then to have long positions disclosed 45 days after quarter-end? That’s cognitively dissonant.”

They didn’t demur.

I said, “Companies fear you, you know that? You need to make it clear that you want them to engage. General counsels are loath to see their companies’ names in the same sentence as your acronym. You need to let them know you want to hear from them.”

They said, “We absolutely want to hear from companies.”

They think there’s merit to a stock market issuer advisory committee, another suggestion we offered Congress in June. This SEC edition wants to see business thrive. It’s the agenda.

Do we realize how great an opportunity for change is in front of us?  It’s that big, public companies. You could know at last, after 42 long years, who owns your shares every month, and who is long or short.  The world the way it is.

How to make it happen?  Not us. We’re market structure experts. Not policy experts. You’ve got to get behind NIRI, our professional association.

I bet if a thousand companies asked the SEC to ask Congress to make 13Fs monthly…it would happen in the next two years.  Maybe one.

It’s time for change.

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