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August 16, 2011

Why an LTID Will Be the Street's New Status Symbol

Are you a player? Since the days of Gordon Gekko and "Liar's Poker," everyone on Wall Street has wanted to be one. But entering the hallowed halls of playerdom was always in the eye of the beholder, with no official designation that announced your arrival. The good news is that the decades of ambiguity are over. Last month, in a unanimous vote, the five SEC commissioners officially defined who's hot and who's not.

The definition is within rule 13h-1, the "Large Trader Reporting Rule," which goes into effect in stages over the next nine months. And if you don't qualify as a "large trader" under the new rule, well, I'm sorry to inform you that no matter what you may think of yourself, the bouncer ain't letting you into that exchange VIP room.

There is a clear definition of who's allowed past the SEC's velvet rope: A person or trading entity that trades 2 million shares or $20 million in a single day qualifies, as does anyone who trades 20 million shares or $200 million in a month. Trades must be in NMS securities, so don't think flipping those pathetic penny stocks in the pink sheets will fool anyone. Hit the target, file form 13H within 10 days, and then sit back and wait for Telly Savalas to knock on your door and hand you the ultimate Player's Club card, officially known as an "LTID" (Large Trader ID), good for one full year of impressing your friends and brokers.

So how exclusive is the designation? It may be a more elite club than you would think. The SEC estimates there will be only 400 trading entities and people that get an LTID, which seems like a wild underestimate based on my own unofficial survey-of the dozen or so clients I randomly discussed it with, a full 100 percent said they will definitely qualify. One client even said his personal account would qualify, swearing that he once flipped enough Sirius Radio tax-free in his IRA account to cross the threshold. With approximately 7,000 hedge funds and 10,000 mutual funds in the U.S. alone, not to mention countless hordes of day traders watching CNBC all day, it seems impossible that only 400 trading entities would qualify.

But the SEC is calling traders out on their supposed massive volumes. Despite receiving several public comment letters saying the estimate of 400 large traders was too low, the Commission is standing by its number. The final rule points out that each parent company receives only one LTID for all its subsidiaries, whether the parent company runs $1 million in one fund, or $1 trillion across thousands of funds. Also implicit in their low estimate may be a belief that traders like to exaggerate their volume, and so there may actually be fewer seven-figure Sirius flippers than we hear about over beers. 

So if the SEC staff is correct and only 400 qualify, getting an LTID will indeed put you in the Wall Street elite. But big-shot players are going to have to accept that along with the prestige, celebrity brings something else-those damn paparazzi who record everything you do. If you qualify to breathe the rarefied Large Trader air, you are required to disclose to the SEC a lot of information about yourself or your organization, including charts that show how your entity is organized, a list of all broker-dealers you do business with, and the names of all officers and partners in your firm. Also required is a "description of your trading strategies." (Before proprietary panic sets in, hedge funds that have discovered the Grand Unified Arb Theory can relax-the description can be as brief as "proprietary trader focusing on statistical arbitrage.") Large Traders are required to file by Dec. 1 of this year. 

As of May 2012, broker-dealers will have to record those LTIDs on every trade, but it's not as Big Brother-ish as it first sounds. Brokers will not attach the client's LTID when sending trades to exchanges and other execution venues, so there should be no added risk that sensitive client trading information could leak out. Also worth noting is that the information is not automatically dumped to the regulators. Broker-dealers will only send Large Trader data to the SEC when specifically requested. And when the data is requested, it shouldn't ever end up in the Wall Street Journal, since Large Trader reports are specifically exempt from Freedom of Information Act requests. 

Having read the details, and having seen that the rule respects confidentiality, I think it will prove to be a good thing for the markets. When a CEO accuses mysterious evil short-sellers of bear-raiding his company, the SEC will have the data to investigate, and maybe even publicly debunk the claim. When a stock rips before a takeover announcement, the regulators will know who bought what. And when a blog shows some odd "quote stuffing" pattern, the SEC will be able to easily identify the suspected stock stuffer, and then examine whether he or she was manipulating the markets or if it was just a harmless computer glitch. 

While catching bad guys and debunking conspiracies is important work, I suspect the biggest impact of the rule will have nothing to do with either. The biggest impact will be social: Traders will be embarrassed to work for a firm that doesn't have an LTID. What self-respecting equities trader would want to work for a place that goes an entire year without ever trading 2 million shares in a day? At the point you admit to your buddies that you don't have an LTID, you might as well admit you still live with your mom, too. 

But traders who won't meet the criteria shouldn't panic, and they don't need to start furiously flipping Yahoo either, because there is an easier path into the celebrity life. The rule allows traders who don't meet the requirements to voluntarily sign up for an LTID. And best of all, these voluntary small trader ID's will still be called "Large Trader IDs" and will be indistinguishable from the real deal. And that is why I am taking the over when betting on the SEC's estimate. They may be right that there are only 400-ish actual large traders, but they're not taking into account the thousands who will want everyone to think they're living large. 

So whether you qualify or not, go ahead and sign up. I don't know about you, but I've already downloaded the forms to voluntarily register my IRA account. I haven't made a trade in it since 2009, but that's not the point. You see, I've always wanted to be a player. 
Dan Mathisson, a Managing Director and the Head of Electronic Trading at Credit Suisse, is a columnist for Traders Magazine. The opinions expressed in this column are his own, and do not necessarily represent the opinions of the Credit Suisse Group. 

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