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March 1, 2004

The Information Superhighway

By John A. Byrne

How fast is fast? Ten seconds? One second? A millisecond? In the modern world there is probably no acceptable definition of superfast, or even realtime, because in the modern world it is, surely, technologically possible to move a split second faster? Confused? Then wait until you start reading the Securities and Exchange Commission's latest reform proposals on market structure. These are, of course, the infamous proposals on trade through, access fees, market data and sub-penny pricing. The most far-reaching is the trade through plan. Under this proposal, a so-called fast market with a stock order could bypass a slow market when the slow market is posting a superior price for that stock. That's as long as the fast market is within one to five cents of the best price.

The speed at which fast markets can accept and execute an order today - and respond to various standards of best execution - is at the heart of the latest gut-wrenching debate on market structure. Superfast ECNs, as you know, bitterly complain that orders for listed stocks constantly get sidelined at the NYSE, which frequently posts better prices than most of its competitors. The orders are sidelined because the NYSE usually can hold up executions for some 30 seconds - sometimes longer. By then, a market could have moved against an ECN investor's order, potentially leaving it unfilled. On the surface, it sounds unfair to an ECN order. Unsurprisingly, the SEC has stepped in to level - or unlevel - the playing field again.

But much of this is besides the point: Are we out of our minds worrying about speed? And are these supposedly discriminated ECN orders comparable to the working stiff who foregoes a two-cents price improvement at the distant supermarket, because this stiff buys a carton of milk instead at his local convenience store? The latter analogy is bandied about by some critics of the current trade through rule. These critics suggest the consumer, had he trade through protection, would have become a more satisfied consumer. But the analogy is flawed: The consumer of the slightly more expensive carton of milk is indeed a potentially satisfied consumer who needs to color his coffee in the wee hours, when the distant supermarket is too far a ride. He's also a consumer, not an investor paying slightly more for an ECN-originated execution because he could not trade through. And this ECN customer, who values speed and certainty, might rightly feel gipped. But in the modern world, does speed and automatic executions make more sense than an interrupted transaction? That's what the SEC must decide.

But let's step back. Has any policy wonk bothered to ask issuers, portfolio managers and investors at large if, as a group, they prefer nightmare speed over slower, deliberate, scrupulous trade executions that leave no room for train robbers, tricksters and penny jumpers? The comment period on the SEC's proposals will likely generate fascinating reading about price and speed. On that score, the NYSE might be forced to capitulate further and remove artificial barriers to competition. The best prices might need a better way to compete, a way that upholds the original intentions of the trade through rule: providing the best price and best execution to the customer. Still, regulating our markets on the logic that some entities can offer superfast executions might be a dangerous road to take. On some highways, there is a sign that reads: Speed kills.

John A. Byrne