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April 16, 2007

NYSE Specialists Get More Leeway in Trading

By Peter Chapman

The fair and orderly markets of the New York Stock Exchange are getting a little less orderly.

Specialists at the Big Board, charged with maintaining "fair and orderly markets," can let stocks bounce around a little more, now that NYSE Regulation relaxed some of its guidelines governing price volatility.

Specifically, the regulator widened the parameters of its so-called "depth guidelines" which dictate the cents-per-share range in which specialists must contain price movements. The changes affect most of the price and volume categories into which the Big Board divides its securities.

Specialists are required to follow the guidelines when managing trading in their specialty securities by committing capital. It's part of their "affirmative obligation" to make fair and orderly markets. They must ensure the stocks don't move too far, too fast. If they slip up, they can be fined.

An increase in volatility in NYSE-listed names is behind the move, according to the NYSE. "We update the parameters periodically," said an NYSE Regulation spokesperson. "Our primary motivation is to stay current with market conditions. Over time volatility, volume and other measures will change."

Since 2001, when stocks began trading in penny increments, the Big Board has updated depth guidelines about half a dozen times. Most changes, though, have led to narrower parameters. This year's wholesale widening was a sharp reversal of that trend.

The change went into effect in February. That month volatility increased even more, the NYSE spokesperson said. The exec attributes the increases to the exchange's move to incorporate more electronic trading via its hybrid marketplace as well, as general market conditions.

Whatever the case, an increase in volatility in NYSE stocks could diminish the perceived quality of the NYSE. An environment of low volatility at the New York due to specialist intervention has traditionally been a hallmark of the exchange. Price volatility on the all-electronic Nasdaq has typically been much greater.

The exchange uses a surveillance system to monitor the movement in the prices of each of its 2,700 securities. It tracks a security's movement over or within a sequence of trades involving various lot sizes.

Stocks are broken down into 198 categories based on their price and volume characteristics. Their trading ranges are then determined based on the amount of volatility they show in each of four different trading lot sizes. The NYSE looks at trading sequences of 3,000-, 5,000-, 10,000- and 25,000-shares.

A stock trading for $30, for instance, that did a median daily volume of 25,000 shares over the past 20 days is permitted to move no more than 75 cents when measured in 3,000-share lots.

Last August, the last time the exchange updated the parameters, specialists just had to make sure that stock moved no more than 60 cents. The bump to 75 cents represents a 25 percent increase-not atypical under the new guidelines. Most of the increases were in the double digits.

NYSE specialists who fail to keep their stocks in line can find themselves in hot water. Last June, for instance, a specialist with Bear Wagner Specialists was fined $25,000 for, among other reasons, "having failed to provide the markets on four occasions with adequate depth and price continuity."