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February 1, 2002

Extinction for the OTC Market? SEC Urged to Clarify Nasdaq's For-Profit Future

By Gregory Bresiger

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  • Extinction for the OTC Market? SEC Urged to Clarify Nasdaq's For-Profit Future

In theory, most industry players support the Nasdaq transformation to a for-profit stock exchange. In practice, these same financial institutions say it's a leap in the dark that raises many questions.

In comment letters with the Securities and Exchange Commission reviewing the Nasdaq application, many industry officials said they had not received enough information about how the Nasdaq metamorphosis will take place as well as the future of the National Association of Securities Dealers.

Another frequent concern in the comment letters is Nasdaq's potential for conflict-of-interest.

Impartial Regulator

"Becoming a for-profit corporation raises concerns about an exchange's ability to act as an effective and impartial regulator," wrote W. Hardy Callcott, general counsel for Charles Schwab & Co. "Even as non-profit enterprises, there is a long history of SROs favoring certain segments of their membership over others, or of ignoring potential misconduct that benefited the SRO or its members."

Instinet officials say the pending application would "in a single stroke," reverse decades of Congressional efforts to assure a viable over-the-counter market. Doug Atkin, president and chief executive of Instinet, tells the SEC that the application has many unanswered questions.

"Is the NASD in a position to assume all of the regulatory responsibilities for the over-the-counter market that Nasdaq has been performing as its agent? Does the Exchange Act permit Nasdaq to separate from the NASD on terms that ignore the fact that, until now, Nasdaq has operated facilities performing those regulatory responsibilities on behalf of the NASD, not for Nasdaq's own benefit?" Atkins asks.

"Are the over-the-counter regulatory facilities of the nation's only registered securities association actually permitted to be sold to an exchange (or to anyone else for that matter)?" Atkin says if the answer to the latter is yes, then why didn't Congress ask the major exchanges, "to assume the responsibility for building those facilities in the first instance?"

Cincinnati Stock Exchange officials write that the application leaves the NASD's future unclear. The NASD, noted Jeffrey Brown, the exchange's general counsel, which was required to develop an alternative facility for the collection of bids, offers and quotations sizes, was dragging its heels on its rules and plans for operating the mandatory new system.

The Securities Industry Association is concerned about how Nasdaq will operate the Bulletin Board as an exchange facility. SIA's members, wrote general counsel Stuart Kaswell, "have differing opinions on Nasdaq's intentions with the Bulletin Board..."

Island ECN officials complain, in their filing, that the Nasdaq filing has not settled the controversy over a central limit order book.

SEC Mandate

"If the Commission approves the Nasdaq filing in its current form," according to Cameron Smith, general counsel of Island, "then the commission is required by its mandate to ensure fair competition between markets, to allow each exchange marketplace that wishes to compete on a level playing field with Nasdaq, to adopt similar rules. Indeed, it is important to note that the Commission recently denied the Philadelphia Stock Exchange's proposal to increase the ability of its members to internalize options orders similar to how Nasdaq operates in the equity context."