consider the procedures under this provision to be efficient and effective in terms of Commission amendment of Association rules. We recommend that the present law be retained. It requires the Commission to first request the Association to adopt the Commission's suggested amendments before proceeding. It is important to note in this context that only one abrogation proceeding and only two hearings concerning Association rules have been instituted since 1939. This record demonstrates that cooperative regulation as envisioned by the Maloney Act has worked well. The procedure provided for in the bill could well result in unnecessary delay. While we do not object to an amendment which would clarify or enlarge Commission authority to amend Association rules, we suggest that the more simplified procedure contained in the present law be retained. New Powers Over Associations

9

The Bill gives the Commission new power to censure or impose limits upon "activities, functions and operations" 10 of the Association. This authority appears to us to be unnecessary in light of present statutory provisions and past cooperative regulatory experience. A similar comment is in order for proposed Section 21 (f) which permits the Commission to apply to a district court for an injunction or writ of mandamus to compel the Association to enforce compliance with its rules. We are concerned about these new enforcement powers because it has never been demonstrated that the Association has ever failed to enforce properly its own rules. Furthermore, we consider the provision unnecessary in light of the antifraud provisions of the present law which provide the Commission with the power to take whatever action it deems necessary in the event of a serious violation of the securities laws.

The Association is troubled by that provision of the Bill which requires the Commission, in an annual report to Congress, to include a statement and analysis of the Association's expenses in performing its responsibilities." This provision probably goes too far since the mere expenditure of funds in a particular area cannot reasonably be equated to effectiveness in the performance of responsibilities in that area. Additionally, the Commission has competently exercised its review authority over Association activities, and we have always endeavored to provide the information and data it has requested from us. We expect this cooperative relationship to continue and therefore see no necessity for a statutory requirement.

COMMISSION ALLOCATION OF SELF-REGULATORY RESPONSIBILITIES

We agree that there is a need to eliminate overlapping regulatory jurisdiction and wholeheartedly agree with the goal of fostering "cooperation and coordination among self-regultaory organizations with respect to the regulation of brokers and dealers." "12 The Association has made a significant effort to cooperate its examinations, inspections and enforcement with other self-regulators and the Commission. We intend to continue our cooperative efforts and programs, but we are troubled by the lack of standards in the Bill's provision which gives the Commission extensive rule-making authority to allocate among self-regulatory organizations the responsibility to examine, to receive regulatory reports, and to carry out "other specified regulatory functions" as to members of more than one self-regulatory organization."

In addition, the Section must also be considered in light of the fact that SIPC currently possesses the authority to designate the particular self-regulatory organization which is responsible for conducting inspections relating to the financial condition of members. Under such a circumstance, it appears that uncoordinated, and possibly duplicate or conflicting, designations could result. Careful consideration must be given to all the implications of this amendment, especially the necessity for adding standards to be considered in such allocations including such matters as regulatory capability, efficiency, cost, and uniformity.

PUBLIC NOTICE OF DISCIPLINARY ACTION

Since 1963 the Association has publicized all disciplinary action which results in an expulsion or suspension of a firm from membership or the revocation or

Sec. 18: Sec. 19(b).

10 Sec. 18: Sec. 19(a) (1).

11 Sec. 20; Sec. 23(b) (2).

12 Sec. 17; Sec. 17 (c).

13 Sec. 17 Sec. 17 (c).

14 Sec. 9(c) of the Securities Investors Protection Act of 1970.

suspension of an individual's registration. We do not believe that publicizing all final disciplinary activities is desirable or necessary. Many volations are minor or of a very technical nature. Such infractions usually result in a censure or relatively small fine and should not be publicly disclosed, as would be provided in the Bill. Because the public generally does not understand the technicalities or complexities of the securities industry, it could easily be misled if it were notified of each disciplinary decision. Instead of bolstering investor confidence on an industry-wide basis, such publication would have the effect of eroding confidence. And, at the firm level, the public's lack of understanding makes public notice of the imposition of such minor penalties as a censure and/or a small fine a far greater penalty than that specifically assessed. This is true for all firms, from the smallest to the largest. For example, a minor violation by a very small firm located in a small community might significantly affect the confidence of such firm's customers if the violation was given significant publicity by a local paper. Likewise, national disclosure of a minor infraction and penalty imposed upon a very large firm having many representatives in a number of branch offices could have a disproportionately large prejudicial effect on the firm and its many representatives and employees who were completely innocent in the matter.

Moreover, the policy of publishing all final disciplinary decisions would defeat the intended purpose of providing the public with notice because of the large number of final decisions. Data for 1972 supports this contention. It shows that 336 actions wehe publicized during the year, including 120 expulsions and bars, 142 suspensions, 31 expulsions and revocations for non-payment of fines, and 43 expulsions and suspensions appealed to the Commission and subsequently set aside. In the same period, 836 actions involving censures and/or fines were not publicized. It is clear that if publicity was required as to all final decisions and penalties, the staggering amount of publicity reaching the public would have a discouraging effect on close public scrutiny of disciplinary actions in general, and it would be very difficult even for Association members to stay abreast of all pub'icized actions. Also in this connection, it should be noted that even in the event the Association did release for publication all disciplinary actions. considerable doubt exists as to the availability of enough newspaper space devoted to the coverage of Association disciplinary decisions. For instance, even the Wall Street Journal, which is the only publication to print the majority of cases that are the subject of a press release by the Association, has informally indicated that it would not be able to publish all disciplinary actions which involve minor violations.

In short, publicizing all final decisions does not, in our opinion, accomplish the intended purpose; it could needlessly alarm the public in the case of minor or mere technical violations, and it could well camouflage more serious violations from the public. If any improvements as to the disclosure are deemed necessary, they could be promptly effectuated with Commission cooperation and without the need for additional legislation.

16

REVIEW OF ASSOCIATION DISCIPLINARY ACTION

The Association supports the change with allows the Commission to take positive action to “affirm" or "remand" disciplinary action taken by the Association. We believe that this procedure is preferable to the present review provided for in Section 15A (h) (3), under which the Commission merely dismisses the proceedings if it finds that Association disciplinary action is valid.

Presently, it is unclear whether statutory authority for Commission review of NASD disciplinary or access decisions relating to NASDAQ exists. Such review is now being accomplished under Commission rule. We endorse proposed Section 19 (d) in that we believe it provides sufficiently express statutory authority to remedy this problem.

In connection with NASDAQ, we recommend that the Committee consider a clarifying amendment to Section 15A (b) (12), enacted in 1964, by adding language which would specifically recognize operation of an automated quotations system in complying with that Section's requirements relating to Association rules regulating member's quotations.

I am appreciative of this opportunity to express our views on this important Bill. We would be pleased to assist the Committee in any way in providing information, data, or further views on any of its provisions.

15 Sec. 18: Sec. 19(d).

16 Sec. 18; Sec. 19 (e) (1) (A) and (B).

Senator WILLIAMS. Mr. Jerome Pustilnik, president of the Institutional Networks Corp., our third witness this afternoon. We are looking forward to your statement, and appreciate your being here.

I haven't had a chance to review your statement, but it's been reviewed by the staff and they are very much impressed with it. So you may proceed any way you see fit.

STATEMENT OF JEROME M. PUSTILNIK, PRESIDENT, INSTITUTIONAL NETWORKS CORP., ACCOMPANIED BY DAVID COLLIN AND R. BARTLETT RENFREW, INSTITUTIONAL NETWORKS CO., AND RICHARD H. PAUL AND WADE H. NICHOLS, PAUL WEISS, RIFKIND, WHARTON & GARRISON

Mr. PUSTILNIK. Thank you.

I am going to read the statement with some deletions and some additions, Mr. Chairman.

I am Jerome Pustilnik, president of Institutional Networks Corp. With me are David Collin and R. Bartlett Renfrew of our company, and Richard H. Paul and Wade H. Nichols of Paul, Weiss, Rifkind, Wharton & Garrison, counsel to the company.

We are grateful for having been invited to take part in the hearings of this committee on Senate bill S. 2519, the National Securities Market System Act of 1973.

We were enormously impressed by the insight and understanding of the securities industry demonstrated by the drafters of this bill. Senate bill S. 2519 is by for the most significant legislative step to date toward development of the sort of securities market system that can attract and justify participation by the public investor.

We at Instinet believe that we are in the forefront of the technological wave which is so dramatically changing the face of the securities markets. We have, therefore, followed legislative and administrative developments in this area with great interest. We participated in the securities industry hearings of the House Committee on Interstate and Foreign Commerce held in February 1972, and earlier in the Securities and Exchange Commission's hearings on securities market structure and regulation.

The purposes of Senate bill S. 2519, as expressed by Senator Williams in introducing the bill, are purposes we have consistently endorsed. We urge the speediest possible implementation of the type of market system contemplated by the bill.

I believe a number of members of the subcommittee and its staff may be familiar with our operations. I note that Instinet-together with AutEx and SIAC-was specifically named in the summary of S. 2519 as one of the "securities information processors" intended to be regulated under the bill. We wholeheartedly endorse such regu

lation.

However, as you will see, Instinet is considerably more than a processor of information, and indeed is quite distinct in its operations from such systems as AutEx and SIAĆ. A number of our technical comments will relate directly to these unique characteristics of Instinet.

In the Instinet system, institutional investors banks, insurance companies, mutual funds and pension funds-deal directly with each

other in trading securities through the channel of the communications system which we provide. Since we help find the other side in institutional transactions, we are registered as a broker, and are technically viewed by the SEC as part of the so-called third market.

In fact, we function in a manner which is quite different from that of most third market operators. Generally third market firms participate in their security transactions as dealers. Instinet operates only as a broker, putting the two sides of a transaction in touch with each other, letting them, themselves, negotiate directly through the system, and ultimately accomplishing execution of the transaction on a fully documented, locked-in basis.

We are the only automated communications system that incorporates this execution feature. We understand that Instinet is the only securities information processor registered with the Securities and Exchange Commission as a broker. And Instinet is the only such system designed for and used primarily by institutional investors. We fully support the principle that securities-related communication systems should be subject to the direct regulatory authority of the Securities and Exchange Commission.

We were registered as a broker in August 1969, and thereby became subject to the full regulatory powers of the Commission pursuant to section 15 of the Securities Exchange Act of 1934.

When the Commission proposed rule 15c2-10 under that act to regulate the operations of automated trading information systems, including Instinet, we urged the Commission to put the proposed rules into effect as soon as possible.

As you know, that rule was never adopted.

The central market system envisioned by the Commission when it proposed rules 17a-14 and 17a-15, and the central market system contemplated in Senate bill S. 2519, require accurate, timely information assembly and dissemination. The securities information processors are the key to that information.

To the extent that the Commission's power to regulate securities information processors is unclear, we welcome amendment of the Securities Exchange Act to remove all such ambiguity.

While we urge early passage of this legislation and prompt implementation by the Commission, we would like to offer some technical comments on the bill at this point.

I will deal with them briefly because they are technical. They are spelled out in more detail by our statement, of course.

So far as exemptions under the proposed legislation are concerned. the bill would amend section 3 (a) of the Exchange Act to add a new subsection (22) defining securities information processor.

This definition would exclude (i) any common carrier subject to the jurisdiction of the Federal Communications Commission and (ii) any national securities exchange or registered securities association. We question the appropriateness of these exemptions.

As to the first, we understand that the FCC has taken the position that it may have jurisdiction over systems like AutEx and Instinet to the extent they operate over leased interstate telephone lines, but has determined not to regulate such systems at the present time.

Regardless of the eventual resolution of this jurisdictional question, we think the SEC should not be divested of control over securities

information processors to the extent that they affect the securities industry, whether or not any other agency like the FCC has or asserts jurisdiction to regulate rates or communications characteristics.

Far more important than the FCC exemption is the exclusion of the exchanges and the NASD from the definition of "securities information processor." If, as stated by Senator Williams, the purpose of this portion of the bill is to set to rest the questions raised-chiefly by the exchanges concerning the SEC's power to regulate SIAC, this exclusion, at best, introduces ambiguity. At worst, it could relieve from direct regulation-as opposed to "self-regulation"-the principle elements of the securities market of the future.

It is not an answer to say that the exchanges and the NASD are already subject to SEC jurisdiction. Under the existing Securities Exchange Act, the exchanges and the NASD are vested with substantial legislative and disciplinary powers, as to which the SEC is merely a reviewing body.

Under the bill, their securities information processing activities would not be subject to the same direct regulatory controls imposed on other information processors. If the exchanges and the NASD and their instrumentalities are to be excluded from direct regulation by the SEC under section 11A of the Act because they are subject to the diluted controls of self-regulation, there is at least equal reason to exclude registered brokers like Instinet, which are subject to direct operational control under section 15 of the Act.

We are aware that the bill includes a new section 11A (f), which declares that national securities exchanges and registered securities associations, as well as securities information processors, must comply with such rules as the Commission may adopt for the collection, processing, or distribution of securities information.

However the preceding subsections, which apply only to securities information processors-and not to exchanges or the NASD-require the filing of information, applications, and plans with the SEC; provide for hearings at which interested persons may be heard, and empower the Commission to suspend or revoke permission to collect, process, and distribute securities information. We can perceive no reasonable basis for this disparity of regulation.

Instinet was among the first to advocate a national market system in which all brokers and dealers and qualified public investors would have full access to complete, current, sequential information on transactions as well as buying and selling interests in all securities. When we refer to "qualified public investors," we expect the category to include major institutions which are basically group investors for thousands of small individual investors.

Proposed section 11A (h) of the act is well suited to achieving such an open book. It directs the Commission to prescribe rules to assure full access by brokers, dealers, and qualified investors to all quotations. Section 3 (a) (22) defines "quotations" to include all "bids and offers for or indications of interest to purchase or sell any security."

Section 6 of the bill, which would amend section 11(b) of the act, applicable to exchange specialists, does not seem as broad as proposed section 11A (h). It gives the Commission authority only to require disclosure of limited price orders placed with such specialists: It does not require full access to the specialists" "book," and in fact may be read to