On Monday, the Securities and Exchange Commission proposed two rules to force trading firms to become dealers and expose their books to greater regulatory scrutiny.

Gary Gensler SEC Chair, applauded the decision. The regulator will now be looking to examine many high-frequency, algorithm-based trades as part of its efforts to maintain liquidity on U.S. financial exchanges.

Gensler released a statement saying that Gensler supported this proposal as it reflected Congress’s statutory intent for firms providing liquidity in securities markets.

New rules from the SEC would make it mandatory for firms and individuals to register as dealers if they frequently purchase or sell similar securities on the same day, or if profits are derived mainly through bid-ask spreads.

Registering would be required for those who trade in U.S. bonds in excess of $25 billion in the preceding six months. These rules would not apply to companies or people who have less than $50,000,000 in assets.

Ed Yardeni (president of Yardeni Research) stated, “This is an effort by the SEC to deal with the shadow dealers system.” “They’ve basically said — thanks to high-frequency trading, algorithms and so on — that there are firms out there that basically have taken on the role of being dealers in the sense that they transact an enormous amount of buying and selling on any specific day.”

In the past, firms that offered to buy and sell securities were not large enough — did not transact enough volume — to affect broader market liquidity. Even if trades involved thousands of U.S. corporate shares or bonds, one firm’s transactions were simply not significant enough to be considered important.

The SEC worries that computer-based traders could become a major source of liquidity in markets.

Market liquidity is crucial to financial stability and price stability. In the past, the SEC asked companies that perform this function to register to be “dealers.”

SEC Chair Gensler said, “Requiring all businesses that frequently make markets, and/or otherwise perform significant liquidity-providing duties, also could help even the playing field between firms, and improve the resilience of our market,” Gensler explained.

If investors are worried about cash liquidity or Treasury debt’s liquidity, they can experience huge, potentially fatal price swings. SEC Monday spoke of such “tremors”, in U.S. Debt markets, in 2019 and 2014 as well as at the beginning the Covid-19 crisis.

The Federal Reserve was forced to enter financial markets by liquidity concerns in spring 2020 in order to satisfy banks’ strong demand for central bank cash. In exchange, Treasury debt is a global backbone which serves as a conduit to everything, including hedged trades and monetary policy.

Yardeni stated that “the Treasury market is generally regarded as the gold standard in the credit markets.” We want that this market in particular remains liquid and functions well.

You don’t want someone to whom you are trying to transact and not answer their phones,” he said. You don’t want an order to be placed and not executed, or executed at a different price than you expected.