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August 23, 2005

Specialist's Quest for Nickels Stymied, So Far

By Michael Scotti

(Traders Magazine, August 2005) -- Managing Director James J. Maguire of the NYSE specialist firm LaBranche & Co., has been on a one-man, 18-month crusade to turn back the clock and have equities trade in nickel increments.

Anecdotally, Maguire reports that he's noticed a change in buyside attitudes toward his proposal. "All I'm asking for is a test," Maguire said.

He's of the strong opinion that since trading in penny increments began in 2001, the lack of transparency and the inability to trade in size have eroded the market quality at the NYSE.

Maguire believes the NYSE board has the power to launch a pilot program that would prove his thesis: Go to a 5-cent spread, and watch limit orders come barreling back into the market and the average trade size go back to pre-2001 levels of 1,200 shares, from the current 400. "This is my mantra, my gospel," Maguire said.

To date, Maguire's request has fallen on deaf ears, except for one 20-minute phone discussion with a board member. "I would think that I would at least get a response," said Maguire, referring to his request to present his proposal to the entire board. Interestingly, the GAO recently issued a report that concluded that penny pricing has been good for investors (See Washington Watch story). Still, the report said that 10 out of 23 institutions surveyed supported a pilot program to trade in 5-cent increments, while nine opposed such a test. Another four had no opinion.

Maguire worked closely with GAO while it put together the report.

He called the study "comprehensive and well done." But he said it didn't go far enough. "What were the unintended consequences? What were the costs to price discovery?" he asked.

The 54-year trading veteran supports modernization of the NYSE and more automatic executions. But he said bringing back a spread to trading would do more for liquidity and transparency than either a merger with Archipelago or the NYSE's proposed hybrid market model.

In a June 23rd letter to the NYSE board, Maguire expressed skepticism that the NYSE's hybrid market proposal will be effective. He called it "extremely complicated." He suggested that the 5-cent spread would bring vitality and depth back to the marketplace. It would allow price-improvement and automated executions for those who want speed.

A move to nickels would "provide a pre-eminent world-class market featuring cost efficiency, speed and simplicity of execution," he wrote. Maguire had not received a response from his letter as of late July. Still, he is attempting to enlist other practitioners to lobby the NYSE directors. An NYSE spokesman said that he could not speak for the board, but said the NYSE already addressed the issue when it approved penny increments.

Benn Steil, a markets scholar at the Council on Foreign Relations, explained that it was Congress that pressured the NYSE to go to penny increments. It's unlikely the clock would be turned back. "The problem with limit orders is not the pennies, it's the pennying," said Steil, referring to traders jumping ahead of orders in the book.

Still, Maguire points out that he's done his own due diligence, querying buyside shops three separate times over the last six months. The feedback he's received for his proposal for nickels has been consistent: About 70 percent of those who responded said they did not oppose a test run. The response rate was 25 percent in one survey of 118 institutions.

When asked if Maguire would be satisfied if the pilot program were implemented for only the less liquid mid-cap and small-cap stocks at the NYSE, he said that he would support that: "Half a loaf is better than none at all. Then I'd go get the other half." Still, Maguire's resolve keeps him going.

"It's not too late," he said, "but we need to wake up before it is. I will meet [the board] anywhere, anytime, 24/7," Maguire said.