On February 6, 2024, the U.S. Securities and Exchange Commission (“SEC” or “Commission”) voted 3-2 to finalize amendments to the definitions of “dealer” and “government securities dealer” under the Securities Exchange Act of 1934 (the “Exchange Act”) (the “Adopting Release”).  Although some of the problematic aspects that were included in the proposed rule were not adopted, the final rules may nonetheless capture certain funds and strategies and therefore subject them to potential registration as a dealer or government securities dealer.  The Adopting Release finalizes amendments that were proposed in March 2022 (the “Proposal”).

On November 21, 2024, the U.S. District Court for the Northern District of Texas ruled that the Dealer Rule exeeded the regulator's statutory authority and is, therefore, unauthorized.  On this basis, the court vacated the final rule in full.  To read more, visit the "Litigation Update" section.

Key Takeaways:

• Private funds and investment advisers are not excluded from the scope of the final rules.

• The SEC did not adopt the proposed Quantitative Standard for U.S. Treasury securities.  The Quantitative Standard would have required a person to register as a government securities dealer if that person, in each of four out of the last six calendar months, engaged in buying and selling more than $25 billion of trading volume in Treasury securities.

• The SEC did not adopt Qualitative Standard 1.  Qualitative Standard 1 would have required a person to register as a dealer or government securities dealer if that person “routinely makes roughly comparable purchases and sales of the same or substantially similar securities (or government securities) in a day.”

• The Commission adopted the proposed Second and Third Qualitative Standards with some minor revisions.

• The Commission did not adopt the aggregation requirement that was included in the Proposal.  Instead, the Adopting Release limits the changes to the definition of “own account” and includes an anti-evasion provision.

• The Adopting Release includes no presumption that a person is not a dealer or government securities dealer solely because that person does not engage in the activities identified in the final rules.

Additional Information on Key Sections

Exclusions

• The SEC chose not to exclude private funds or investment advisers from the scope of the final rules.  The Adopting Release notes that hedge funds are the primary type of private fund that are likely to be captured under the final, i.e., private equity and venture capital funds are unlikely to trigger the final rules. 

• The Adopting Release expands the scope of excluded entities to include central banks, sovereign entities and international financial institutions.  As proposed, registered investment companies and persons that have or control less than $50 million are excluded.

Quantitative Standard

• The SEC did not adopt that proposed Quantitative Standard that would have been a part of new rule 3a44-2.  The Quantitative Standard would have required a person engaged in buying and selling government securities for its own account to register as a government securities dealer if that person, in each of four out of the last six calendar months, engaged in buying and selling more than $25 billion of trading volume in government securities.

Qualitative Standards

• The Commission adopted new Exchange Act Rules 3a5-4 and 3a44-2 that set forth two non-exclusive qualitative standards (instead of the three that were proposed) for dealers and government securities dealers, respectively.

Qualitative Standard 1

• In response to commenters’ concerns, Qualitative Standard 1 was not adopted, which would have required a person to register as a dealer or government securities dealer if that person routinely makes roughly comparable purchases and sales of the same or substantially similar securities (or government securities) in a day.

• In the Adopting Release, the Commission agreed that Qualitative Standard 1 would have captured more than dealing activity; however, it notes that the elimination of Qualitative Standard 1 “does not mean that the conduct that would have been captured . . . is not dealing activity.”

• The Commission further notes that this conduct may be de facto market making under Qualitative Standard 2 or 3 or dealer activity under otherwise applicable precedent.

Qualitative Standard 2 (the “Expressing Trading Interest Factor”)

• The Expressing Trading Interest Factor was revised slightly from its proposed form.  
  • A person will be required to register as a dealer or government securities dealer if that person is “regularly expressing trading interest that is at or near the best available prices on both sides of the market for the same security and that is communicated and represented in a way that it accessible to other market participants.”
  • The proposed language would have required persons to register as a dealer or government securities dealer if they “routinely” express trading interest, and it did not include “for the same security.”
• The term “regularly” will apply to a person’s expression of trading interest both within a trading day and over time.  Whether a person’s activity is “regular” will depend on the liquidity and depth of the relevant market for the security.

• The term “trading interest” means: (i) an “order” as the term is defined in Rule 3b-16(c) or (ii) any non-firm indication of a willingness to buy or sell a security that identifies the security and at least one of the following: quantity, direction (buy or sell) or price.
  • The final rule does not adopt a requirement that the trading interest be expressed simultaneously on both sides of the market.
  • The Commission explains that “participants will need to assess the totality of their trading activity to determine if they are expressing trading interests on both sides of the market for the same security sufficiently close in time to have the effect of providing liquidity in the same security to other market participants.”
• In response to a question from SEC Commissioner Hester Peirce during the open meeting, Haoxiang Zhu, the director of the Division of Trading and Markets, said that whether a trading interest is “at or near” the best available price will be based on a facts and circumstances determination.

• The phrase “accessible to other market participants” reflects the plain meaning that a person expresses trading interests to more than one market participant, i.e., it does not depend on the particular method of communication and representation.  

Qualitative Standard 3 (the “Primary Revenue Factor”)

• The Commission adopted, as proposed, the Primary Revenue Factor, which requires a person to register as a dealer or government securities dealer if that person is “earning revenue primarily from capturing bid-ask spreads, by buying at the bid and selling at the offer, or from capturing any incentives offered by trading venues to liquidity-supplying trading interest.”

• The term “trading venues” is intended to accommodate the variety of venues in which market participants engage and is intended to capture venues as they evolve, whether on a national securities exchange, an ATS or otherwise.

The Definition of “Own Account” & Aggregation Thereof

• The Adopting Release deletes from the definition of “own account” any accounts held in the name of a person over whom that person exercises control or with whom that person is under common control.

• The Adopting Release eliminates the definitions of “control” and “parallel account structure” since the corresponding language in the aggregation provisions in the Proposal has been removed, and the definitions are no longer relevant.  The Commission notes that it has determined to focus on the activity on an entity-by-entity basis, rather than aggregating accounts across entities that are controlled by or are under common control with an entity.

• Accordingly, the amended definition of “own account” means any account: (i) held in the name of that person or (ii) held for the benefit of that person.

• To prevent potentially evasive behavior, the Adopting Release adds an anti-evasion provision that provides that no person shall evade the registration requirements by: (i) engaging in activities indirectly that would satisfy the Expressing Trading Interest Factor or Primary Revenue Factor or (ii) disaggregating accounts.

No Presumption

• The Adopting Release includes a “no presumption” clause that a person may be a dealer if it engages in a regular business of buying and selling securities for its own account, even if it does not meet either the Expressing Trading Interest Factor or Primary Revenue Factor.

Compliance Deadline

• The compliance deadline for the final rules is April 29, 2025.

If you would like to read more about the Adopting Release, you can access our comprehensive summary here.

Please contact Daniel Austin with any questions regarding this rule.

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  Daniel Austin

  Head of U.S. Markets Policy and Regulation