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April 1, 1998

A New System Promises To Police Trading Abuse:But Sending Real-Time Trade Data to Regulators Will

By Om Malik

Traders hate rude interruptions. A breakdown in market-data systems leads to pandemonium. A faulty telephone connection is taboo.

So it is with a certain resignation that Nasdaq market makers are bracing for another interruption, and with nary a word of protest the implementation of the Order Audit Trail System, or OATS.

On March 16, the Securities and Exchange Commission made OATS official, mandating Nasdaq desks to install the real-time electronic system for gathering and reporting more than two-dozen trade details directly to the National Association of Securities Dealers. That's a mammoth operational challenge, as desks now have up to 90 seconds to send trade details after an order is executed.

But it wasn't exactly a sudden surprise. Several years back, OATS was a foregone conclusion. The NASD agreed to implement OATS as part of its settlement with the SEC in 1996.

OATS places a substantial systems and regulatory burden on each Nasdaq desk, requiring the desks to record order information based on the exact hour, minute and second of execution. That will allow NASD Regulation to better police trading abuses, such as front-running and trading-ahead practices.

"It's set in stone, it's a pain in the neck and we have no choice but to implement OATS," one market maker snapped.

OATS will be rolled out in incremental steps. By March 1, 1999, orders received by electronic communications networks or at the trading desks of market makers will be required to report data via OATS.

By Aug. 1, 1999, all electronic orders must be reported, while on July 31, 2000, all manual or non-electronic orders must be covered.

The new rules require members to synchronize the business clocks used to record OATS data, including computer-assisted clocks and mechanical time-stamping devices.

While the regulators might have had noble intentions, OATS has the makings of a technological storm, with companies spending thousands of dollars equipping for the systems changes.

This has lead to concern among smaller desks that the high cost of compliance could drive them out of business.

Nevertheless, some traders think most market makers will weather the storm. "Some small firms might stop making markets," said the head of trading at a four-person Nasdaq desk. "But I suspect most desks will continue business as usual."

The head trader's desk uses BRASS, the order-management and trade-routing system sold by Automated Securities Clearance Corp. of Weehawken, N.J. Automated Securities Clearance had good news, he said. When the deadline looms closer, his worries will be over with a simple flick of a switch and a reasonable service charge. (The trader declined to give the cost.)

"We're in good shape," the trader added. "But much smaller desks may not be so fortunate and may have to pay exorbitant costs to service bureaus and clearing firms to make the adjustments."