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Stock exchange tech rules get first SEC revisions in 23 years

U.S. regulators will require stock exchanges to show they can prevent technology disruptions, under new rules intended to limit the frequency of malfunctions that have undermined investor confidence.

The Securities and Exchange Commission voted unanimously Wednesday to approve rules that will cover the Nasdaq Stock Market, the New York Stock Exchange and venues operated by Bats Global Markets, as well as dark pools – private stock exchanges – including those owned by Credit Suisse Group AG and UBS AG. The SEC will separately consider expanding the rules to brokers, including firms such as Citigroup Global Markets and Citadel Securities LLC that internally fill orders away from exchanges.

“We need to address any regulatory gaps that exist for market participants whose systems would have a significant market impact if they were disrupted,” SEC Chairwoman Mary Jo White said at the meeting.

The revisions will mark the first update in 23 years of voluntary measures for exchanges’ automated trading systems. The standards were issued after the October 1987 market crash known as “Black Monday.” White vowed to complete the new rules, known as Regulation SCI, after the August 2013 failure of Nasdaq’s system for reporting quotes and prices, which caused a 3-hour trading halt.

The new rules require exchanges to conduct tests to ensure they can recover from natural disasters and terrorist attacks and have maintained adequate backup systems. Exchanges would have to inform the SEC of significant disruptions within 24 hours and provide regulators with a written report of what caused it. The rules include a safe harbor to shield executives from liability when they can show they followed their own internal policies.

Dark pools, broker-owned competitors to exchanges that don’t publish quotes, will have to comply if they account for more than 0.25 percent of trading volume. Alternative trading systems that list bids and offers for corporate and municipal bonds were carved out of the proposal and won’t have to comply, White said.

Regulators considered applying the requirements to brokers after Knight Capital Group’s $450 million trading loss in August 2012, which stemmed from a software error that caused the firm to enter millions of faulty trades in less than an hour. Knight, now part of KCG Holdings, is one of several large market-makers that pay discount brokers to fill retail orders.