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Elaine Wah

Modern Markets, Modern Metrics - A Blog By IEX

In this blog by IEX's Elaine Wah, the newest public exchange looks to refute public claims that the metrics it uses are designed to inflate its own volume numbers and mislead people.

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December 6, 2006

The ADF Moves into the Reg NMS Era

By Gregory Bresiger

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  • The ADF Moves into the Reg NMS Era

NASD's sometimes-maligned Alternative Display Facility (ADF) is pushing to become a more formidable competitor to Nasdaq's and NSX's trading platforms.

That's because ADF will be transacting American Stock Exchange and New York Stock Exchange-listed securities early next year as part of a package of changes triggered by Reg NMS, which kicks in next year.

"When NMS no longer requires Intermarket Trading System (ITS) connectivity, ADF will handle Amex and NYSE securities," Steve Joachim, executive vice president of Transparency Services for NASD, told Traders Magazine.

The ITS is expected to cease operations in February, the NASD said in a recent regulatory filing approved by the Securities and Exchange Commission. The NASD, in the same filing, detailed how it will align its rules with those of Reg NMS.

Trading officials, looking for an effective alternative to the Nasdaq platform over the last year or so, have at times been frustrated by the limitations of the almost five-year old ADF. They claim it is antiquated and has weak volume. It also doesn't offer services that are in demand, such as order routing, they added.

Adding listed business will help, trading officials privately said. Still, they noted that the ADF changes will not be sufficient, in the near term, to make a dramatic impact. The problem? NASD still hasn't come up with the most effective order protection rules in the new Reg NMS environment.

For example, ADF doesn't have order routing capabilities to route to other markets to fulfill Reg NMS's best execution requirements. Therefore, a trader using ADF, and looking to have a protected quote, will not be able to get it.

He added the SEC is not now comfortable with NASD aggregating these quotes. So the NASD is looking for another order protection method for ADF participants.

"We don't have a great solution for that right now. But we continue to work with the SEC on this," according to Joachim. Indeed, a trading official, who didn't want to be quoted by name, said "this will definitely limit efforts to improve the ADF over the next year. It will probably take [the NASD] at least a year to figure that out with the SEC." NASD's Joachim, responding to the criticisms of ADF, emphasized that the ADF operates "very differently than market centers do."

For now, he noted, there will be one protected quote from each top of the book ADF order and it will be settled by price and size instead of the usual price-time criteria.

Order protection is one of the issues ADF must figure out. Indeed, in an SEC filing last summer in their battle with Nasdaq over its trading platform, ECN officials complained about ADF's connectivity costs, its inability to quote NYSE-and-Amex listed securities as well as its sub-penny quoting problems. ADF is not able to display sub-penny quotations to four decimal places for securities of under $1.00.