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February 2, 2006

SIA Criticizes SEC Over Liquidnet Exemption

By Gregory Bresiger

Federspiel maintained that Liquidnet should not get any exemptions. Merrin's claim of a unique process was the point of debate.

"If he had a manual system, there would be no problem. But as an ATS, he should be subject to the same rules as the rest of us are," Federspiel said.

The SIA committee also warned that the regulators, in approving the new sub-penny rule, the least controversial of the Reg NMS plan, also left the door open for ATSs to request an exemption. Any exemption from the sub-penny rule would help the ATS but hurt the overall market, the SIA said.

"Also, if one-to-one negotiations warrant exemption from the Sub-Penny Rule, it is unclear why only those negotiations occurring on an ATS merit an exemption as opposed to all one-to-one negotiations," Madoff wrote. The rule, whose implementation was delayed last year, was due to go into effect this month.

But an SEC official, in recently explaining the SEC's decision at a public conference, said the regulators lowered the Fair Access Requirements from 20 percent to 5 percent with the proviso that an ATS must have reasonable non-discriminatory procedures in deciding who can be a member and access a system.

Bob Colby, deputy director of the SEC's Division of Market Regulation, said regulators don't know how to devise reasonable non-discriminatory procedures "because of the system's premise." Colby said Liquidnet could run the risk of someone trading based on what someone learned from its members' OMSs instead of just trading with the institution. That could destroy an institution because no one would participate. "I don't think," Colby said at a recent conference, "it is very useful to decide where there will be other types of exemptions."

The battle over Liquidnet's exemptions continues. Privately, Merrin's critics-noting that Liquidnet is registered as a broker-dealer-are arguing that the SEC must recognize that it has dramatically transformed itself and that it no longer qualifies for an exemption. They point to a section of the SEC's exemption order: "Any material changes in Liquidnet's business may cause the Commission to reconsider this exemption."