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.

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August 11, 2008

Unshackled

By Peter Chapman

Overall, this change will erode the independence of the specialist operation, as its activities are integrated with those of the rest of the firm. The rule will allow so-called "aggregation units"-departments that separate certain trading activities at various parts of a firm-to coordinate the trading of specialist units with proprietary desks. A risk manager will act as a middleman between the two desks, watching the positions of both and making trading decisions. The two desks will still not be able to communicate with each other. But that possibility is open for future consideration, according to the filing.

Hedging

The changes will permit the specialist to transfer his risk to the firm's prop desk and visa versa. However, coordination of trading and risk management will be limited to the specialist and prop desks. Risk managers will not be permitted to take into account positions held by customer-facing desks such as the block desk or Nasdaq market-making desk.

Easier hedging will translate into more risk-taking by specialists, the exchange believes. "At present, they can only unload their positions on the exchange floor," Abrahall explains. "They have to wait for the liquidity to come to them. [Under the proposal] they always have an outlet. We can allow them to get the liquidity through their upstairs aggregation unit. They will not be constrained from making a better market."

Duncan Niederauer, chief executive of NYSE Euronext, sees the move by specialists to transfer their risk-management work upstairs as further reducing the need for personnel on the floor. "It would not surprise me," he recently told analysts, "as the market model continues to evolve and we continue to embrace technology, that more of the risk management can be done off the floor. I think that would be positive for liquidity provision."

Assuming the New York gets what it wants-a group of aggressive market makers-will it make any difference? Granted, the designated market-maker initiative isn't the only front on which the New York is tackling its market share problem, but it is a biggie.

"The orders will come in more frequently," Abrahall says. "They will be of bigger size. The customer will get more size done at better prices. That is how I view victory. And that, of course, helps your market share."

Goldman also expects a jump in the NYSE's market share. Citadel's Fitzpatrick is cautiously optimistic. So is Rosenblatt, the broker. But others aren't so sure. Many executives Traders Magazine spoke with are skeptical. They believe the ship has sailed. Jamie Selway, chief executive of institutional brokerage White Cap Trading and the former chief economist at Archipelago, predicts that the NYSE's market share will drop to 20 percent.

"The New York is potentially getting better specialists," Selway says. "It is getting the type of specialist one would need in this day and age. But limit-order traders are probably more important. The New York is helping the less-important constituency and hurting the more-important one. One guy will be very important and very happy and will increase his business on the NYSE. But what happens to the rest of us?"

The exchange expects to phase in the rule changes during the third and fourth quarters.

SIDEBAR #1: The Evolution of the Specialist