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February 1, 2000

Nasdaq's Supermontage Joins the Great Game: No longer just a scorekeeper, a tra

By Peter Chapman

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If all goes as planned, Nasdaq's new supermontage proposal will mark the first major restructuring of the Nasdaq market in its nearly 30-year history. The Nasdaq system will be transformed into a centralized electronic exchange not unlike an electronic communications network (ECN). Nasdaq will cease to be a mere facilitator of dealer-to-dealer trading and become an execution mechanism in its own right.

Currently, Nasdaq operates mostly on the sidelines, collecting and displaying quotations and providing systems that let market participants communicate with one another. Most trades are still executed by members and their systems against each other. If the SEC approves last October's proposal, Nasdaq will evolve from the chaperone at a high school dance to a new life as a matchmaker. But instead of young singles it will match orders with orders. It will stand in the middle of all trades, acting as a sort of gatekeeper or traffic cop.

"If you want to get an execution and you're dealing at the inside, you put the order into the supermontage and we'll get you an execution," said Dan Franks, senior vice president of market operations at Nasdaq. "We'll be delivering it to whoever is at the inside - market maker or ECN."

At the heart of the Nasdaq proposal is an ECN-like order matching mechanism called the "Order Collector Facility." The OCF will do two things. Firstly, it will collect the bids and offers of market makers, ECNs and UTP exchange specialists (mainly from the Chicago Stock Exchange) and post them on an "Order Display Facility," or supermontage.

Secondly, it will collect the market orders and marketable limit orders of market makers, ECNs, UTP specialists and order entry firms and match them against the bids and offers displayed in the ODF. No longer will market participants send their orders directly to one another. Now, Nasdaq is in the middle. And unlike the present machine gun method of trading whereby orders randomly "sweep the Street," all orders will be matched on the basis of price and time priority (that is, first come, first served).

Other key features include automatic execution; display of the three best price levels instead of just one; trades of up to 999,999 shares; and the ability of market makers to display agency and anonymous orders.

Much of Nasdaq's new trading philosophy can be attributed to its adoption in 1997 of the SEC's Order Handling Rules, which accorded customer limit orders the same weight as market maker quotes.

"Under the Order Handling Rules, orders and quotes are virtually the same thing," Franks said. "A quote's an order and an order's a quote. If a market maker gives us a quote that is executable we will turn that quote into an order and execute it. If he gives us an order that is not executable it will become part of his quote."

Added Franks: "We're taking our old role as a collector of quotations and updating it with the idea than an order is a quote and a quote is an order."