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June 30, 2003

A Bulletin Board Renaissance

By Keith Lite

The OTC Bulletin Board has been in the Dark Ages for more than a decade. Since 1990, this Luddite-type trading platform has operated by telephone, old-fashioned order-delivery, and with an expensive infrastructure. So it's logical to expect the Bulletin Board, which originated as a quote dissemination mechanism, to evolve into something better: a dynamic, transparent environment.

In this environment, clients might expect to benefit from many of the electronic and other changes that have improved other securities markets. Yet Bulletin Board stocks still largely trade today by telephone, the same way they did a decade ago.

Indeed, the Securities and Exchange Commission has recognized the OTCBB market needs improvement. The SEC recently approved the Limit Order Protection rule proposal (SR-NASD-2002-153). The rule change, which was effective January 13, 2003, applies basic customer limit order protection principles to all securities quoted on the OTCBB. The rule prohibits member firms from "trading ahead" of customer limit orders, at prices equal or superior to that of the customer limit order, without also executing that order at the limit price. The individual investor will finally have fair representation for orders.

It is an important step since the NASD began operation of the OTCBB in 1990. The idea back then was to provide more transparency and automation for securities not listed on an exchange or Nasdaq. It was a major innovation. The OTCBB enabled market makers to display quotes in real-time for these securities over Nasdaq terminals rather than the daily paper quote sheets. The OTCBB did not list securities. Instead, a market maker that wanted to display a quote for a security would "register" a request with Nasdaq to be a market maker in the security. The OTCBB soon began to assume many of the characteristics of a separate marketplace.

ACT reporting and real time quotes - as well as trades, and volume information - helped usher in changes to the way Bulletin Board securities were traded. But the changes were much more incremental than monumental. Most notably, equity trading changed dramatically since 1990 because of technology. Yet, the OTCBB market continued to lag behind other market centers such as Nasdaq, where innovation resulted in tighter spreads, transparency and more efficient markets.

Even the explosion in Bulletin Board volume in 1999 didn't improve the OTCBB, despite some talk about it becoming much more electronic. Instead, this spike in volume exposed the Bulletin Board's weakness because the platform was incapable of handling a deluge of orders. Desks were overwhelmed by phone calls. Customers were left waiting on hold for hours.

Some four years later it's still not uncommon for the market to move while broker dealers wait on hold to transact orders. But customers are restless.

Investors deserve more from this marketplace. Investors deserve transparency, anonymity, strict price and time priority of orders and a network infrastructure that connects hundreds of points of liquidity to create, in essence, a national market structure. And, how about an electronic order delivery system that helps propel the Bulletin Board to a higher standard of openness and best execution? That is the standard on venues which trade larger cap stocks.

Despire Nasdaq's plans to upgrade the OTCBB platform, plans that are still pending with the SEC, its proposed solution only covers a fraction of the overall Bulletin Board marketplace. As volumes in the OTCBB marketplace increase, the time has come to trade all Bulletin Board securities using technology that is available today. And that means providing transparency and the efficient delivery of any order to the market participant with the best price. This is a standard by which almost all new marketplaces, both domestic and international, are built around today. The OTCBB must take the next technological leap - the leap has become so commonplace it is now a skip - and trade electronically. That's the way the rest of the OTC stocks are trading today.

Keith Lite is the director of new business development at Archipelago, which operates the Archipelago Bulletin Board.