Commentary

Salil Pachare and Ilia Rainer
Traders Magazine Online News

Does the Tick Size Affect Stock Prices?

The Securities and Exchange Commission has recently released a whitepaper examining the change in tick sizes on trading based on data it collected during the Tick Size Pilot.

Traders Poll

Would the creation of a single central regulator in Canada affect your inter-listed trading strategies?




Free Site Registration

August 11, 2008

Unshackled

By Peter Chapman

At the New York, the process is very different. Whoever sets the best price first does get filled first. But that fill may be for only 100 shares. At the New York, time priority is good for only one trade. If, for example, the first man is bidding for 1,000 shares and a 100-share sell order comes in, that's all his priority gets him. Any subsequent incoming sell orders are shared with the pack.

This sharing process is known as "parity" at the exchange. It benefits those floor brokers with "go along" orders. Some brokers are prohibited from setting the price by customers who are afraid of standing out, and therefore trade as volume executes. At prices away from the BBO, there is absolutely no time priority. All allocations are done on parity.

This divergence from strict price-and-time priority goes even further, as individual traders must often subordinate their interests to those of other trader groups. The specialist, for instance, must always yield to orders from upstairs traders at the same price. Even if he sets the BBO first, the specialist must forfeit the trade to the upstairs trader. And because of that rule, the specialist often ends up yielding to floor brokers as well.

Fewer Trades

For their part, upstairs traders are essentially second-class citizens compared with floor brokers. While individual floor brokers are treated equally during the allocation process, individual upstairs traders are treated as a group. The group then splits up its share allotment based on strict time priority.

Under the exchange's new proposal, the standing of the upstairs trader is likely to get worse. Because the specialist will not have to yield to the book, the upstairs trader will likely participate in fewer trades. And when he does participate, he will likely receive fewer shares under the allocation process.

Putting the specialist on parity with the upstairs trader (and, by extension, the floor broker) is the right thing to do, according to the NYSE's Abrahall. "If I am asking this group of firms to set the best market and someone else joins at the price, it is unfair to kick them to the back of the line," he says. Abrahall points out that under current rules, the specialist is on parity with floor brokers as long as there is nothing on the book. The problem, though, he adds, is that there is always something on the book, and therefore the specialist yields to both parties.

Some upstairs traders are not happy with the direction the exchange is taking with its proposal, but most contend they have plenty of other venues on which to trade. "They have every right to do what they are doing," says Dan Mathisson, head of Advanced Execution Services at Credit Suisse. "But there are plenty of other places you can go. It's not like the old days when they changed the rules. You didn't have an alternative when they had 80 percent of the volume."

A block trader at a large broker-dealer expects little resistance from the trading community to the changes. "They understand what is going on," he says. "The New York is trying to preserve its market share. The world that existed five or seven years ago doesn't exist anymore. Steps need to be taken."