The US Securities and Exchange Commission (SEC) large trader
reporting rule (Rule 13H-1) will drive up
broker-dealers’ diligence requirements and
ultimately increase cost burdens, according to US attorneys.
Under the rule, scheduled to take effect on October 2, large
traders are required to self-identify, after which they will
receive a Large Trader Identification Number (LTID) that they
must disclose to their broker-dealers. The SEC will use the
LTIDs to record securities trading information reported by
The new reporting requirements for broker-dealers are similar
to those under the Electronic Blue Sheets (EBS) system, except
that broker-dealers must report the time and date of a
transaction as well as the LTID of the large trader.
"During the financial crisis the regulators probably would have
benefited from knowing who was shorting what stocks," said Nora
Jordan, a partner at Davis Polk & Wardwell.
"Before the rule, the SEC could find out which broker was
trading but not who was behind the trades. Now
they’ll be able to do that."
Starting at the end of April 2012, broker-dealers will be
required to monitor their clients who may be close to the large
trader identifying activity level and report trading records of
those clients to the SEC upon request.
Clarifications are needed regarding the diligence required of
broker-dealers in reporting unidentified large traders. The
rule requires them to keep records on persons identified as
potential large traders by "reasonably designed policies and
The broker need not stop trading with the unidentified large
trader or report it to the SEC or make further inquiries.
"Rather, the broker can continue trading and simply keep the
appropriate records – something that will certainly
help the broker’s relationships with traders," she
"I think we need to get some questions answered to figure out
whether the broker dealers need to substantially enhance their
systems," she added.
Georgia Bullitt, a partner with Morgan Lewis &
Bockius’ investment management group, expects
broker-dealers to suffer a material additional cost burden at a
time when they are already being weighed down by other
significant compliance requirements.
Bullitt is concerned broker-dealers won’t have
enough time to make complex systems and operational changes
necessary to comply with the new rule, especially in regard to
the requirement that broker-dealers must keep track of trading
activity by unidentified large traders.
"It’s very difficult from a systems perspective to
look across accounts based on trader or adviser activity at a
single broker-dealer, since accounts are typically identified
by beneficial owner and not by the individuals or firms that
exercise trading discretion over the account," she said.
Who is a large trader
A person is a large trader if they have investment discretion
for a total number of National Market System (NMS) securities
transactions equal to or in excess of two million shares or
shares with a fair market value of $20 million during any day,
or NMS securities transactions equal to or in excess of 20
million shares or shares with a fair market value of $200
million during any month.
The phrase "investment discretion" in Rule 13H-1 is vague, and
may need clarifying by the SEC.
"In case of a private fund formed as a limited partnership, for
example, the general partner has the ultimate responsibility
for all trading activities of the fund, but the investment
manager has the day-to-day responsibility for fund management,
including grade execution," Debevoise & Plimpton partner
Byungkwon Lim wrote in a summary sent to clients.
The Commission is expected to finalise a rule on a proposed
consolidated audit trail in the coming months, further
increasing the regulatory burden imposed upon broker-dealers.
The consolidated audit trail is estimated to cost $3.4 billion
to implement according to the rule proposed on May 26 of last
"I think it is likely that the cost of the large trader
reporting requirements and the consolidated audit trail
requirements will somehow get passed on to the end users,"
"It is going to be more expensive to buy and sell securities.
This of course is not good news for hedge funds, mutual funds
and asset managers."